Just when it seemed that everyone recognized the growing economic problems of the European Union, an unlikely admirer surfaced to say otherwise. South African President Thabo Mbeki used the International Labor Conference in Geneva last week to sing the praises of the European system of financial transfers known as structural and cohesion funds, which are used to redistribute tax revenue from rich to poor regions of the EU. According to Mbeki, the EU deserves credit for standing up against the forces of “market fundamentalism.” Its financial transfers, he asserted, encourage “social and economic development and modernization” and “ensure the even and balanced development of all [EU] communities.”
Why that sudden interest in the internal arrangements of the European Union? Because, says Mbeki, the European system of “resource transfers” should serve as a blueprint for addressing the problem of African poverty. Thus, as in Europe where the German taxpayer bails out spendthrift public officials in Greece, so globally the productive and the prosperous should bail out governments with clear records of mismanagement. But, this self-appointed defender of the world’s downtrodden has it wrong. Foreign aid—discounted loans or outright grants—has a dismal record of helping the poor to develop.
Between the end of World War II and 1997, the United States alone provided approximately $1 trillion in aid to poor countries around the world. It did not help. Nearly all of the world’s poorest countries have been long-term aid recipients. Many of them have seen their per capita incomes actually fall to 1980 and even 1970 levels. Today, even the international aid agencies, such as the World Bank, accept the negative effect of much past foreign aid on Third World development.
Still, Mbeki wants more of it. Judging by the noises coming from the White House, he may well get it in the form of the Millennium Challenge Account and other “revamped” aid schemes, which promise not to make the same mistakes as before.
Unfortunately, the European aid programs fuel the perception that aid is instrumental to reducing poverty if only it is targeted well. That is a myth. When the main bulk of the EU regional aid started to be disbursed in 1975, 44 percent of the EU population lived in the regions that qualified for it. By 1997, however, that percentage increased to almost 52 percent. Clearly, the program failed in its main task of reducing the differences between rich and poor European regions.
Even more tenuous is the link between more aid and faster economic growth. When Ireland joined the European Economic Community in 1973, it was one of Europe’s poorest nations. By 2001, Ireland could boast one of Europe’s highest per capita incomes of $27,170. What went right? It sure wasn’t European aid. In fact, the Irish growth rates increased at the same time that European aid was decreasing in proportion to the size of the Irish economy.
What Ireland did was reduce its top marginal tax rate from 80 percent in 1975 to 44 percent in 2001 and cut the standard income tax from 35 percent in 1989 to 22 percent in 2001. The Irish cut their corporate tax rate from 40 percent in 1996 to 24 percent in 2000. A low 10 percent tax was levied on manufacturers and exporters. All in all, Ireland’s tax revenue in 1999 was 31 percent of the GDP. A comparable figure in the rest of the EU averaged 46 percent. As a result of those and other reforms, the Irish economy grew at an average annual rate of 7.65 percent between 1992 and 2001.
Over the last five years, Mbeki has spent much of his time focusing on international issues, such as the fate of Iraq and the Israeli-Palestinian conflict, which are not distinctly relevant to the well-being of his people. The time has come for him to pay attention to some basic rules of economic development. The level of national wealth is not determined by its power, its natural resources, the size of its population, or the amount of money it can get by condemning “market fundamentalism”. Economic development is a legacy of sound economic policies at home. What will Mbeki’s legacy be?