4.5 The role of foreign direct investment (FDI) - PowerPoint Presentation

Slide1

4.5 The role of foreign direct investment (FDI)4.6 The roles of foreign aid and multilateral development assistance4.7 The role of international debtSlide2

4.5 The role of foreign direct investment (FDI)

Foreign direct investment

Foreign direct investment, net inflows (

BoP

, current US$) Slide3

1. Describe the nature of foreign direct investment (FDI) and multinational corporations (MNCs).

Foreign direct investment (FDI)

is direct investment into production in a country by a company in another country, either by buying a company in the target country or by expanding operations of an existing business in that country

.

Multinational corporation (

MNC)

A company which produces in more than one

country.Slide4

2. Explain the reasons why MNCs expand into economically less developed countries.

Foreign direct investment

is done for many reasons including to

take advantage

of cheaper wages, special investment privileges such as tax exemptions offered by the country as an incentive to gain tariff-free access to the markets of the country or the region

.

Less developed countries have huge untapped natural resources. Moreover, these countries lack the capital investment and the technology to tap into these resources. This provides FDI with a lot of opportunity to exploit these resources and earn high returns on their investments.Slide5

2. Explain the reasons why MNCs expand into economically less developed countries.

In recent years,

FDI has been used more as a market entry strategy for investors, rather than an investment strategy. Despite the decline in trade barriers,

FDI

growth has increased at a higher rate than the level of world trade as businesses attempt to circumvent protectionist measures through

direct investments

. With globalization, the horizons and limits have been extended and companies now see the world economy as their market.Slide6

2. Explain the reasons why MNCs expand into economically less developed countries.

Additionally for investors,

FDI provides the benefits of reduced cost through the realization of scale economies, and coordination advantages, especially for integrated supply chains. The preference for a

direct investment

approach rather than licensing and franchising can also been viewed in terms of strategic control, where management rights allows for technological know-how and intellectual property to be kept in-house.Slide7

2. Explain the reasons why MNCs expand into economically less developed countries.

Less developed countries

usually have less stringent labor and environment laws. This provides

MNCs

with an opportunity to lower their cost of production by taking advantage of these loopholes

.Labor is usually cheaper and available in abundance in

LDCs. The MNCs can considerably lower their cost of production. This gives advantage to the MNCs to compete in the international market.Slide8

3. Explain the characteristics of economically less developed countries that attract FDI, including low cost factor inputs, a regulatory framework that favors profit repatriation and favorable tax rules.

LDCs

understand the importance of

FDIs

and have special policies to attract them. This might involve tax holidays, provision of cheaper land and government support. All these factors make it an attractive proposition for

FDIs to invest in LDCs. examples include, tax holidays, Duty exemptions and drawbacks, Export tax exemptions, Subsidized credits and Credit guarantees.Slide9

3. Explain the characteristics of economically less developed countries that attract FDI, including low cost factor inputs, a regulatory framework that favors profit repatriation and favorable tax rules.

Some

developing countries provide great promises in terms of being emerging markets.

Brazil

as well as

India and

China are all markets with huge populations and growing incomes. As incomes rise, the demand for all normal goods and services will increase, and there is thus potential for substantial profits to be made by companies that manage to establish a presence in these markets.Slide10

4.

Evaluate

the impact of foreign direct investment (FDI) for economically less developed countries.

Arguments for FDI:

FDI

brings investments

into countries where savings are difficult to build

FDI

transfers technology

to the host country

FDI

provides

employment

taxation

of

FDI

contributes badly needed government

revenue

output of enterprises resulting from

FDI

contributes to increased exports and

improved balance of payment

prospects

(Provides much needed foreign currencies for trade)

FDI

creates

demand for locally produced inputs

may provide national, regional or local

multiplier effects

to attract

FDI

governments often

invest in infrastructure

, which has positive spin-offs in the rest of the

economy

& (Merit Goods)Slide11

4. Evaluate the impact of foreign direct investment (FDI) for economically less developed countries.

Arguments against FDI:

tax incentives offered by the host government may outweigh the expected tax revenue from

FDI

output from foreign enterprises may

drive local enterprises out of business

local

labor is exploited and high technical or executive posts are filled by foreign personnel FDI may produce negative externalities and risks for the local population

FDI

may solve short-run balance of payment difficulties but may also introduce long-run outflows of income in the form of

profit repatriation

FDI

may bring in

inappropriate technology

FDI

makes the host country vulnerable to

MNC influence

. Government attempts to tighten control of foreign enterprises may result in

FDI

leaving the country

transfer pricing

reduces potential tax revenue

MNCs

may not follow local

laws/regulationsSlide12

Benefits of FDI One of the advantages of

foreign direct investment is that it helps in the economic development of the particular country where the investment is being made. This is especially applicable for

developing economies. During the 1990s,

foreign direct investment

was one of the major external sources of financing for most countries that were growing economically. It has also been noted that

foreign direct investment

has helped several countries when they faced economic hardship.Slide13

Benefits of FDIAn example of this can be seen in some countries in the East Asian region. It was observed during the 1997 Asian financial crisis that the amount of

foreign direct investment made in these countries was held steady while other forms of cash inflows suffered major setbacks. Similar observations have also been made in Latin America in the 1980s and in Mexico in 1994-95.

Resource transfer

, in terms of capital and technical knowledge, is also a key motivator that encourages inward

FDI

.Slide14

Benefits of FDIFDI

allows the

transfer of technology—particularly in the form of new varieties of capital inputs—that cannot be achieved through financial investments or trade in goods and services.

FDI

can also

promote competition in the domestic input market.Recipients of FDI

often gain employee training in the course of operating the new businesses, which contributes to human capital development in the host country.Profits generated by FDI

contribute to

corporate tax revenues

in the host country.Slide15

Benefits of FDI

Foreign investment gives advantages in terms of export market access arising from

economies of scale in marketing of foreign firms or from their ability to gain market access abroad. Besides their contributions through joint ventures, foreign firms can serve as catalysts for other domestic exporters. In an empirical analysis, the probability a domestic plant will export was found to be positively correlated with proximity to multinational firmsSlide16

Benefits of FDIForeign investment

can aid in bridging a host country’s foreign exchange gap. Growth requires investment and investment requires saving-whether domestic or foreign.

Two gaps may exist in the economy:

insufficient saving

to support capital accumulation to achieve a given growth target; and

insufficient foreign exchange to transform domestic to foreign resources. Slide17

Benefits of FDIIf investment

requires imported inputs, then domestic saving may not guarantee growth if the saving cannot be converted to foreign exchange to acquire imports.

Capital inflows help ensure that foreign exchange will be available to purchase imports for investment.Slide18

Disadvantages of FDILoss of sovereignty

by host nation.

MNC have their parent companies and shareholders in the country of origin. Repatriation of profits by

MNC

to the parent country causes

a flow of capital out of the developing country. This might also lead to depletion of foreign exchange reserves with the host country.There is

a chance of rise in inflation.The country or industry that attracts foreign investment may become entirely dependent for growth and increase the risk.Slide19

Disadvantages of FDIIf the domestic companies are not competitive and efficient, they may suffer losses.

In absence of proper regulatory policies,

MNCs might exploit the

labor

and natural resources.

Foreign direct investment is an expensive and risky option for companies than licensing and exporting. They face expropriation, political risk and currency inconvertibility.

Capital intensive technology, by the

MNC, rather than labor-intensive technology limits benefits to host country.In very poor nations, MNCs may sometimes exert political control in other to suit their vested interests. This might bring about political

instability

and chaos in the host nation.Slide20

4.6 The roles of foreign aid and multilateral development assistance

Net ODA received per capita (current US$) Slide21

5. Explain that aid is extended to economically

less developed countries either by governments of donor countries, in which case it is called

official development assistance (ODA), or by

nongovernmental organizations (NGOs).

Foreign aid

, the international transfer of capital, goods, or services from a country or international organization for the benefit of the recipient country or its population

.

(official

)

aid organized

by the

government

:

Bilateral aid

is assistance given by a

government

directly to the government of another country. This is usually the largest share of a country’s aid. It is often directed according to strategic political considerations as well as humanitarian

ones.

Multilateral aid

is assistance provided by

governments

to international organizations like the World Bank, United Nations and International Monetary Fund that are then used to reduce poverty in developing nations. Slide22

6

. Explain that

humanitarian aid consists of food aid, medical aid and emergency relief

aid.

This

type of aid is traditionally extended to nations which are

victims of natural disasters

, such as floods, famines and epidemics. This is short term aid and does not have to be repaid. Humanitarian aid is per se non-political

.

Traditional responses to humanitarian crises, and the easiest to

categories

as such, are those that fall under the aegis of

‘emergency response

’:

material relief assistance and services

(shelter, water, medicines etc.)

emergency food aid

(short-term distribution and supplementary feeding

programs)

relief coordination, protection and support services

(coordination, logistics and communications

).Slide23

6. Explain that humanitarian aid

consists of food aid, medical aid and emergency relief aid.

But

humanitarian aid

can also include

reconstruction and rehabilitation

(repairing pre-existing infrastructure as opposed to longer-term activities designed to improve the level of infrastructure) and

disaster prevention and preparedness (disaster risk reduction (DRR),

early warning systems

, contingency stocks and planning).

Under

the

Organization

for Economic Cooperation and Development (OECD) Development Assistance Committee (DAC)

reporting criteria,

humanitarian aid

has very clear cut-off points – for example, ‘

disaster preparedness

’ excludes longer-term work such as prevention of floods or conflicts. ‘

Reconstruction relief

and

rehabilitation

’ includes repairing pre-existing infrastructure but excludes longer-term activities designed to improve the level of infrastructure.

Humanitarian aid

is given by governments, individuals,

NGOs

, multilateral

organizations,

domestic

organizations

and private companies.Slide24

6. Explain that humanitarian aid consists of food aid

, medical aid and emergency relief aid.

There is more than enough

food

produced each year to feed adequately everyone on earth. However, food is so unevenly distributed that malnutrition and hunger exist

Food aid

in the same country or region where food is abundant.Critics of food aid argue that it increases dependence, promotes waste, does not reach the most needy and dampens local food production. Nevertheless, the

food aid

has frequently been highly effective. It plays a vital role in saving human lives during famine or crisis, and if distributed selectively, reduces malnutrition.

Unfortunately,

poor transport, storage, administrative services, distribution networks and overall economic complex hinder the success of

food aid

programs, but the concept itself is not at fault.

Example NGO:

U.S

. Food Aid and Security Slide25

6. Explain that humanitarian aid consists of food aid,

medical aid

and emergency relief

aid

.

Medical aid

is assistance given in the form of medical treatment and supplies.

Example NGO:

Medical

Care Development International

Emergency

relief

aid

is assistance given in times of crisis. It is usually to provided the basic necessities as food, clothing and shelter.

Example NGO:

UNICEF Slide26

7

. Explain that

development aid

consists of grants, concessional long-term loans, project aid that includes support for schools and hospitals, and programed aid that includes support for sectors such as the education sector and the financial sector.

Development

aid

is

financial aid

given by governments and other agencies to support the economic, environmental, social and political development of developing countries.

It

is distinguished from

humanitarian aid

by focusing on alleviating poverty in the

long term

, rather than a short term response.

Major

part of the

developmental aid

comes from government sources as

official development assistance (ODA).

The remaining comes from private

organizations

such as

"Non-governmental

organizations"

(NGOs),

foundations and other development charities (e.g.,

Oxfam

).Slide27

7. Explain that development aid

consists of grants, concessional long-term loans, project aid that includes support for schools and hospitals, and programed aid that includes support for sectors such as the education sector and the financial sector.

Financial

aid

is

divided

into various sub-forms, i.e

.:(i) Tied Aid: Tied aid is of two types

:

Nation

Tied Aid

: is given to the recipient country on the condition that she will spend it in the donor country to solve the

BOP

problems

of that country and to stimulate exports, i.e., if Pakistan is given aid by US and is asked to import raw materials or machinery from US only then it is

‘nation tied aid

’ or ‘

resource tied aid

’.Slide28

7. Explain that development aid

consists of grants, concessional long-term loans, project aid that includes support for schools and hospitals, and programed aid that includes support for sectors such as the education sector and the financial sector.

Project Tied Aid

: is given only for specific projects and the recipient country cannot shift it to other projects

.

(ii)

Untied Aid: Untied aid is the aid which is not tied to any project or nation. It is, in all respects, better than the tied aid because it offers more efficient use of foreign resources. It is much desired because in the case of untied aid the recipient country is not bound to spend the foreign resources on specific projects or in the donor country which may charge higher prices than international market.Slide29

7. Explain that development aid

consists of grants, concessional long-term loans, project aid that includes support for schools and hospitals, and programed aid that includes support for sectors such as the education sector and the financial sector.

(iii)

Grants

: A grant is that form of foreign aid which does not entail either the payment of principal or interest. It is a free gift from one government to another or from an institution to a government. It is much desired because it increases the internal expenditures and generates income. It is given on the basis of humanitarianism, especially in days of emergencies, earth quakes, floods, wars, etc.

(

iv)

Loans: It is the borrowing of foreign exchange by the poor country from the rich country to finance short-term or long-term projects. Slide30

7. Explain that development aid

consists of grants, concessional long-term loans, project aid that includes support for schools and hospitals, and programed aid that includes support for sectors such as the education sector and the financial sector.

Loans

are further sub-divided into two types:

Hard

Loans

: Hard loans are also called short-term loans. In order to finance industrial imports they are given usually for a period less than five years, and they are paid in the currency borrowed. It contains no concessional element but interest rate is usually lower than the prevailing rate of interest in the international market.Soft Loans

: Soft loans are also known as long-term loans. Soft loans are made for 10-20 years and it is repaid in the currency of recipient country. Interest on these loans is lesser than hard loans and often these loans invoice grace period. Concessional elements are comparatively greater.Slide31

7. Explain that development aid

consists of grants, concessional long-term loans, project aid that includes support for schools and hospitals, and programed aid that includes support for sectors such as the education sector and the financial sector.

Technical assistance

is designed to disseminate knowledge and skills rather than goods or funds. Under this aid

programs,

training facilities are provided by the donor country’s government and it bears all the expenditures involved in the training of advisory technocrats.

Technical assistance from the donor’s point of view takes two main forms: Through Recruitment: Technical assistance may be given through recruitment. Selected people of recipient country are recruited in the donor country for service overseas, partly, often largely, at the expense of the donor government.

Through Scholarships & Training Facilities

: The second form of technical assistance is scholarship and training facilities in donor country for foreign students (from recipient country).Slide32

8

. Explain that, for the most part, the priority of

NGOs

is to provide aid on a small scale to achieve development objectives.

Non-government aid

is assistance provided by

non-government organizations (NGOs) like

World Vision

, the

Red Cross

and

Oxfam

.

The money for this aid is mainly provided by public donations from individuals and businesses. However,

NGOs

also receive some funding from government.Slide33

8. Explain that, for the most part, the priority of

NGOs

is to provide aid on a small scale to achieve development objectives.

The United Nations now describe a

Non-Governmental

Organization

as a not-for-profit, voluntary citizen’s group, which is organized on a local, national, or international level to address issues in support of the public good.

Task

oriented and made up of people with common interests,

NGOs

perform a variety of services and humanitarian functions, bring citizens concerns to governments, monitor policy and

program

implementation, and encourage participation of Civil Society stakeholders at the community level.Slide34

8. Explain that, for the most part, the priority of

NGOs

is to provide aid on a small scale to achieve development objectives.

NGOs

have, since the end of the Second World War, become increasingly more important to global development. They often hold an interesting role in a nation’s political, economic or social activities, as well as assessing and addressing problems in both national and international issues, such as human, political and women’s rights, economic development, democratization, inoculation and

immunization,

health care, or the environment.

However

, in the developing world, the role of

NGOs

is often critical. In years of drought or famine, the non-governmental

organizations

have been pivotal in providing food to those most

marginalized.

NGOs

often provide essential services in the developing world that in developed countries governmental agencies or institutions would provide. Slide35

8. Explain that, for the most part, the priority of

NGOs

is to provide aid on a small scale to achieve development objectives.

Normally,

NGOs

provide services that are in line with current incumbent governmental policy, acting as a contributor to economic development, essential services, employment and the budget.

In a wider approach, NGOs

are also the source and

center

of social justice to the

marginalized

members of society in developing countries or failed states.

NGOs

are often left as the only ones that defend or promote the economic needs and requirements for developing states, often bringing cases to the

International Monetary Fund, World Trade

Organization

and

World Bank.

Developing

nations and

NGOs

often find allies in one another when opposing legislation, economic terms or agreements from global institutions.Slide36

8. Explain that, for the most part, the priority of

NGOs

is to provide aid on a small scale to achieve development objectives.

If the

Millennium Development Goals

are to be achieved in many of the developing, the role of

NGOs will have to be recognized by the international community. Their efforts are often more effective than much bilateral aid.

However

, the role of

NGOs

has also been

criticized,

as many international experts estimate that much of the work done by

NGOs

is not

harmonized

or tailor-made to the countries preferences and peculiarities, causing the quality of aid to suffer.Slide37

9. Explain

that aid might also come in the form of

tied aid

.

Tied

aid

is foreign aid that must be spent in the country providing the aid (the donor country) or in a group of selected countries. A developed country will provide a bilateral loan or grant to a developing country, but mandate that the money be spent on goods or services produced in the selected country. From this it follows that

untied aid

has no geographical limitations.

In 2006 the

Organisation

for Economic Co-operation and Development

(OECD) estimated that 41.7 percent of Official Development Assistance is untied

.Slide38

9

. Explain that aid might also come in the form of

tied aid.

Commodity

aid

, in fact, is another type of

tied aid, which relates to agriculture products, raw materials and consumer goods. Under

commodity aid

, the donor country has much political influence on the recipient country.

Commodity aid

may be received in cash form or in the form of food grains:

In Cash Form

: If it is received in cash form it may be more helpful because then a country may buy more commodities from cheaper sources.

In Food Grain Form

: It is a special type of commodity aid, which is given in the form of food grains only.Slide39

9. Explain that aid might also come in the form of

tied aid

.

Arguments for and against tied aid

Tied aid increases the cost of assistance

and has the tendency of making donors focus more on the commercial advancement of their countries than what developing countries need. When recipient nations are required to spend aid on products from the donor nation, project costs

can raise.

Tied

aid can create distortions in the market

and impede the recipient country's ability to spend the aid they receive. There are growing concerns about the use of tied aid and efforts to analyze the quality of aid given, rather than simply the

quantity

Others

have argued that tying aid to donor-country products is common sense;

it is a strategic use of aid to promote donor country’s business or exports.

It is further argued that tied aid if well designed and effectively managed, would not necessarily compromise the quality as well as the effectiveness of aid (

Aryeetey

, 1995; Sowa 1997).

However

, this argument would hold particularly for

programmed

aid, where aid is tied to a specific projects or policies and where there is little or no commercial interest.

It

must be emphasized however, that commercial interest and aid effectiveness are two different things and it would be difficult to pursue commercial interest without compromising aid effectiveness. Thus, the idea of maximizing development should be separated from the notion of pursuing commercial interest.

Tied

aid improves donors export performance,

creates business for local companies and jobs. It also helps to expose firms, which have not had any international experience on the global market to do so

.Slide40

10. Examine the

motivations of economically more developed countries giving aid.

National interests

still form the basis of foreign aid, but the focus shifts from national security and self-preservation to

economic interests

.

Some

argue that donor countries use aid in ways that promote their economic interests. Thus, donors will give more aid to the countries that have the most to offer them by way of exports, access to raw materials, and industrial competitiveness.

In

short, donor countries give foreign aid to "create export and investment opportunities, particularly in larger countries that offer large markets to [the donor country's]

firms”.

A Question of Motivations: Determining Why Donor Countries Give

Aid

Donor Motives for Foreign AidSlide41

11. Compare and contrast

the extent, nature and sources of ODA

to two economically less developed countries.

AidFlows

visualizes how much development aid is provided and received around the world. Users can select individual donors (providing the aid) and beneficiaries (receiving the aid) to track the sources and uses of aid funding

.

To use the site, select a donor or a beneficiary, either from the left navigation or by clicking on the world map. Some countries are listed both as donor and beneficiary.

Data sources include the OECD's Development Assistance Committee, showing global development aid, plus the World Bank and the Asian Development Bank, reporting on their respective development financing activities

.

AidFlows

is the result of a partnership between the OECD, the World Bank and the Asian Development Bank. They came together to raise the transparency of aid, making global data on development assistance more easily accessible.

AidFlows

will be of interest to constituencies in both donor and beneficiary countries, helping to further inform the global dialogue about development aid.

(http://www.aidflows.org

/)Slide42

12. Evaluate the effectiveness of foreign aid in contributing to economic development.

Arguments against Aid,

which may include whether

aid:

–

interferes

with market forces– is used to promote the exports of donor countries

– finances military expenditure– is used for political purposes– is conditional on the implementation of free market/supply side policiese.g.

privatization

–

increases indebtedness

e.g. interest payments even on soft loans

– is

less effective

than FDI

– is less effective than trade related development, e.g. through fair trade schemes

–

encourages dependence

– misuse through

corruptionSlide43

12. Evaluate the effectiveness of foreign aid in contributing to economic development.

Arguments in favor of Aid,

which may include whether

aid:

– bridges the

savings gap

– bridges the

foreign exchange gap– finances provision of merit goods and infrastructure projects in recipient countries– is used as a transition strategySlide44

13. Compare and contrast the roles of aid and trade

in economic development.

So does trade reduce poverty?

In a recent World Bank Policy Research Working Paper,

Maëlan

Le Goff and Raju Jan Singh examine this question, looking at the connection between poverty and trade liberalization in 30 African countries between 1981 and 2000.

Their results suggest that trade does tend to reduce poverty, but only in specific settings: in countries where financial sectors are deep, education levels high, and governance strong.Slide45

13. Compare and contrast the roles of aid and trade in economic development.

A more developed

financial sector

allows banks and investors to more quickly identify new and promising sectors and redirect credit to them. A more

educated population

is more able to acquire the new skills sought by growing sectors and adjust more rapidly to the changing conditions of the labor market. Finally,

better governance

allows contracts to be made and conflicts to be resolved more easily.Slide46

13. Compare and contrast the roles of aid and trade in economic development.

Advantages of Trade over

aid

to Poor

Nations

:

1.

Encourages work and creates jobs– about 35 jobsin LDCs for each OECD job lost. Lower tariffs (taxes) raise total employment in OECD nations as well.2. Low wages target the poor (self-targeting)

3.

Reduces immigration, speeds institutional change

in LDCs (even in China, though it is still far from democratic).

4.

Reduce terrorism?

5

.

Reduces cost of basic foods and

clothing

.Slide47

13. Compare and contrast the roles of aid and trade in economic development.

Disadvantages and difficulties of

increasing Trade

with Poor Countries

1

.

Sometimes but not

consistently, trade has skilledworker bias (inequality increases, but not poverty).2. Threatens some OECD jobs (but not total employment)

3.

Political Opposition

: threat to local firms creates

political opposition within OECD.

4.

Does not reach some disadvantaged groups:

geographically isolated, ill or otherwise unable to

work in export industries (e.g. Nepal, Mongolia).Slide48

Using information from the text and your knowledge of economics,evaluate the view that increased trade is more important than

increased aid for less developed economics

. M05/3/ECONO/SP2/ENG/TZ0/XX/M

Responses

for

this view may include

: (Pro Trade & Con’s of Aid)• aid can only help to a small extent• trade brings greater benefits than aid does

• these benefits include increased employment, increased incomes

, increased

foreign income and increased economic growth

• aid by itself is not a solution to the economic problems of

the developing

world

• freer trade is critical if developing economies are to escape the

cycle of

aid dependency.Slide49

Using information from the text and your knowledge of economics,evaluate the view that increased trade is more important than

increased aid for less developed economics.

M05/3/ECONO/SP2/ENG/TZ0/XX/M

Responses

against

this view may include

:

(Pro Aid & Con’s of Trade) • many developing countries do not have enough resources in order to focus on trade rather than aid• many developing economies do not have well functioning markets

for goods

, services, insurance, credit, a sound banking system,

well defined

property rights, a skilled and healthy workforce, a

well functioning

legal and tax system and good infrastructure

• aid is vital in strengthening the aspects listed above

• aid can accelerate the process of infrastructure improvement that

may otherwise

take decades longer

• aid to improve education and skill levels, sanitation and health

is essential

for helping the poorest countries to reduce poverty

• participating in the WTO system is very costly and may soak up

the development

budget of the least developed countries

• aid has an important disaster prevention role and acts as an

insurance policy

against future conflicts

• aid works and it makes a huge difference to the lives of poor people

• there are strong humanitarian reasons for providing aid and aid

should be

considered an investment in the future, rather than as a cost.Slide50

d) Using information from the text/data and your knowledge of economics, discussthe extent to which

trade

between China and African countries is a more effectiveway of achieving economic development

than Chinese

aid

to African countries.

Responses may include:definition of trade, aid, economic development.Benefits of trade for economic development:

access to export markets

and

revenue

increased employment

access

to imports from China

import

new technologies

exploit

comparative advantage

economies

of scale

improvements in efficiencies

greater

choice

all

of the above could result in higher economic growth, which

might

lead

to economic

development through higher incomes.

Limitations of trade for economic development:

overdependence

on a narrow range of commodity

exports

leads to

the inability to expand in value-added sectors

vulnerability

to price fluctuations and economic conditions in China results

in fluctuations

in government and business revenues

overexploitation

of resources in African countries may be a threat

to sustainable

development

diagram

to show negative externalities.Slide51

d) Using information from the text/data and your knowledge of economics, discussthe extent to which trade between China and African countries is a more effectiveway of achieving economic development than Chinese aid to African countries.

Benefits of aid for economic development:

target

specific sectors,

eg

agriculture, housing, education, healthcaretargets development of human capital through education and training

break the poverty cycle, filling gapsbuilding key infrastructure Limitations of aid:overdependencepotential

for abuse through corruption

poorly

targeted aid

politically

motivated aid targeted at inappropriate sectors

tied

aid.

To reach level 3, students

must show awareness of the ways in which aid

and trade impact upon economic development

(not simply discuss the advantages and

disadvantages of aid and trade in general).Slide52

14. Examine the current roles of the IMF and the World Bank in promoting economic development.

International Monetary Fund [IMF]

The IMF was founded more than 60 years ago toward the end of World War II. The founders aimed to build a framework for economic cooperation that would avoid a repetition of the disastrous economic policies that had contributed to the Great Depression of the 1930s and the global conflict that followed

.

Since then the world has changed dramatically, bringing extensive prosperity and lifting millions out of poverty, especially in Asia. In many ways the IMF's main

purpose—

to

provide the global public good of financial stability —

is the same today as it was when the organization was established. More specifically, the IMF continues

to:

provide

a forum for cooperation on international monetary

problems

facilitate

the growth of international trade

, thus promoting job creation, economic growth, and poverty reduction;

promote

exchange rate stability

and

an open system of international payments

; and

lend countries foreign exchange when needed

, on a temporary basis and under adequate safeguards, to help them address balance of payments problems.Slide53

14. Examine the current roles of the IMF and the World Bank in promoting economic development.

Key IMF activities

The IMF supports its membership by providing

policy advice

to governments and central banks based on analysis of economic trends and cross-country experiences;

research, statistics, forecasts, and analysis

based on tracking of global, regional, and individual economies and markets;

loans to help countries overcome economic difficulties;concessional loans to help fight poverty in developing countries; andtechnical assistance and training to help countries improve the management of their economies.

The

IMF

collaborates with the

World Bank

, regional development banks, the World Trade Organization (

WTO

),

UN

agencies, and other international bodies. While all of these organizations are involved in global economic issues, each has its own unique areas of responsibility and specialization. The

IMF

also works closely with the Group of Twenty (

G-20

) industrialized and emerging market economies and interacts with think tanks, civil society, and the media on a daily basis.Slide54

14. Examine the current roles of the IMF and the World Bank in promoting economic development.

World Bank

The World Bank

, formed in 1944, is like a cooperative, made up of 188 member countries. These member countries, or shareholders, are represented by a Board of Governors, who are the ultimate policymakers at the

World Bank

. Generally, the governors are member countries' ministers of finance or ministers of development. They meet once a year at the Annual Meetings of the Boards of Governors of the World Bank Group and the International Monetary Fund.

The World Bank seeks to

promote the economic development of the world's poorer countriesassists developing countries through long-term financing of development projects and programsprovides to the poorest developing countries whose per capita GNP is less than $865 a year

special financial assistance

through the International Development Association (IDA)

encourages private enterprises

in developing countries through its affiliate, the International Finance Corporation (IFC)Slide55

14. Examine the current roles of the IMF and the World Bank in promoting economic development.

Since inception, the

World Bank has expanded from a single institution to a closely associated group of five development institutions. These are

The

International Bank for Reconstruction and Development (IBRD

)

lends to governments of middle-income and creditworthy low-income countries.

The International Development Association (IDA) provides interest-free loans—called credits— and grants to governments of the poorest countries.The International Finance Corporation (IFC)

provides loans, equity and technical assistance to stimulate private sector investment in developing countries.

The

Multilateral Investment Guarantee Agency (MIGA)

provides guarantees against losses caused by non-commercial risks to investors in developing countries.

The

International Centre for Settlement of Investment Disputes (ICSID)

provides international facilities for conciliation and arbitration of investment disputes.Slide56

4.7 The role of international debt

The global debt clock

Total debt service (% of exports of goods, services and primary income)Slide57

15. Outline the meaning of foreign debt and explain why countries borrow from foreign creditors.

External debt

(also called "

foreign debt

") is the portion of total country debt that is owed to creditors outside of the country. The debtors can be the government, corporations or private households. The creditors include private commercial banks, other governments and international financial institutions (

such as the IMF and the World Bank

).Why do people, companies and countries borrow? One obvious answer is that it is the only way they can maintain their desired level of spending. Another reason is optimism; they believe the return on the borrowed money will be greater than the cost of servicing the debt. Crucially, creditors must believe that debtors' incomes will rise; otherwise how would they be able to pay the interest and repay the capital?Slide58

16. Explain that in some cases countries have become heavily indebted, requiring rescheduling of the debt payments and/or conditional assistance from international organizations, including the

IMF

and the World Bank

.

The

heavily indebted poor countries

(

HIPC) are a group of 39 developing countries with high levels of poverty and debt overhang which are eligible for special assistance from the International Monetary Fund (IMF) and the World Bank

.

The

HIPC

Initiative was initiated by the

International Monetary Fund

and the

World Bank

in 1996, following extensive lobbying by

NGOs

and other bodies. It provides debt relief and low-interest loans to cancel or reduce external debt repayments to sustainable levels.

To

be considered for the initiative, countries must face an unsustainable debt burden which cannot be managed with traditional means

.

Assistance is conditional on the national governments of these countries meeting a range of economic management and performance

targets.

Debt Relief Under the Heavily Indebted Poor Countries (HIPC) InitiativeSlide59

16. Explain that in some cases countries have become heavily indebted, requiring rescheduling of the debt payments and/or conditional assistance from international organizations, including the

IMF

and the World Bank.

The

IMF estimates that the total cost of providing debt relief to the 40 countries currently eligible for the HIPC program would be around $71 billion (in 2007 dollars

).

Half

of the funding is provided by the IMF, World Bank, and other multilateral organizations, while the other half is provided by the creditor countries. The IMF's share of the cost is currently being funded by the proceeds of gold sales by the organization in 1999, but it estimated that this will not be enough to cover the full cost, and further funding will need to be raised if additional countries such as Sudan and Somalia meet the qualification requirements for entry into the program

.

assistance

provided by the

IMF

such as

financial assistance

to correct balance of payment deficits or

structural adjustment programs.

assistance

provided by the

World Bank

such as

offering developmental

assistance to middle and poor-income

countries.Slide60

17. Explain why the servicing of international debt causes

balance of payments problems and has an opportunity cost in terms of foregone spending on development objectives.

indebtedness

does not allow savings and consequently investment

in human

capital and infrastructure

borrowing from overseas, requires interest payments, restricting investment in human capital and infrastructure

interest

repayments divert funds

from the health care system

resulting in

the inability to “address infectious disease” as a primary

concernSlide61

17. Explain why the servicing of international debt

causes balance of payments problems

and has an opportunity cost in terms of foregone spending on development objectives.

a

rise in real interest rates

as capital flows out of the debtor countries to service the debts

balance

of payments deficits and the effects of IMF policies on the poor.high levels of debt discourage future loans

as countries are less willing to lend to heavily-indebted LDCs

debt may be useful and necessary in the short run

to invest in human capital and infrastructure which will increase the ability to repay debt in the long run.Slide62

17. Explain why the servicing of international debt causes

balance of payments problems

and has an opportunity cost in terms of foregone spending on development objectives.

An explanation linking

interest payment

to the size of the

debt

. A high level of international indebtedness determines a high level of debt interest servicing. Such interests are recorded as

debits

in the

current account

and will worsen an eventual deficit.Slide63

18. Explain that the burden of debt has led to pressure to cancel the debt of

heavily indebted countries.

Positive impacts

of debt cancelation may

include:

• a reduction in the

opportunity cost of debt servicing

in terms of expenditure on health, education and infrastructure, all of could promote economic development and growth and therefore alleviate poverty• balance of payments effects (less debt servicing)

•

bridges the savings gap and the foreign exchange gap

, making investment

in human

and physical capital more likely and thereby contributing to

a reduction

in poverty

•

reduction in the transfer

of

human capital

(brain drain),

and the transfer of domestic savings

(

capital flight),

both of which can contribute to

economic development

and the reduction of poverty.Slide64

18. Explain that the burden of debt has led to pressure to cancel the debt of heavily indebted countries.

Negative impacts of debt cancelation

may

include:

incompetent

governments can run up more debt

corruption

not likely to be eliminatedmisuse of the extra funds available The danger of moral hazardThe creation of a dependency culture

The rewarding of irresponsible governments and penalizing of committed ones. Slide65

18. Explain that the burden of debt has led to pressure to cancel the debt of heavily indebted countries.

ways in which indebtedness can affect growth and development

any

cuts in demand for exports from OECD countries

a

fall in the price of

primary products as debtor countries try to increase the volume of their

exports in order to raise hard currencya rise in real interest rates as capital flows out of the debtor countries to service the debtsSlide66

18. Explain that the burden of debt has led to pressure to cancel the debt of heavily indebted countries.

opportunity costs of

debt servicing

(such as expenditure on education, public health, infrastructure)

balance of payments deficits

and the effects of IMF policies on the poor

.

indebtedness could lead to a loss of economic freedom e.g. through the imposition of structural reforms by the IMFSlide67

Using information from the text and your knowledge of economics,evaluate the role of multilateral organizations like the World Bank and

the IMF in assisting the economic development of Heavily Indebted

Poor Countries.

M07/3/ECONO/SP2/ENG/TZ0/XX/M

Answers may include:

definition

of economic developmentoverview of the assistance provided by the IMF such as financial assistance to correct balance of payment deficits or structural adjustment programsoverview of the assistance provided by the World Bank such as

offering developmental

assistance to middle and poor-income countries

reference

to specific assistance provided by both the IMF and

the World

Bank mentioned in the textSlide68

Using information from the text and your knowledge of economics,evaluate the role of multilateral organizations like the World Bank and

the IMF in assisting the economic development of Heavily Indebted

Poor Countries.

M07/3/ECONO/SP2/ENG/TZ0/XX/M

Discussion may include:

evaluation

of assistance provided to HIPC in the context of the textevaluation of impact on economic growthevaluation of impact on development such as income distribution, reduction of absolute poverty, income distributionevaluation

of impact on human development such as literacy

, life

expectancy, HDI progress

evaluation

of macro impact on unemployment, inflation, exchange rate

, fiscal

and monetary stability, saving, investment, role of government

evaluation

of impact on balance of payments performance such as

current account

and capital account

critical

approach towards the IMF and the World Bank

any

money received may often not get to the intended recipients

because of

corruptionSlide69

Using information from the text and your knowledge of economics,evaluate the role of indebtedness in constraining economicdevelopment for African countries

. M05/3/ECONO/HP3/ENG/TZ0/XX/M+

Problems that could be covered include:

indebtedness

does not allow savings and consequently investment

in human

capital and infrastructureborrowing from overseas, requires interest payments,

restricting investment in human capital and infrastructureinterest repayments divert funds from the health care system resulting in the inability to “address infectious disease” as a primary concernhigh levels of debt discourage future loans as countries are less willing to lend to heavily-indebted LDCs

tied

aid

corruption

the

IMF and conditionality

microfinance

capital

flight