INTERNATIONAL: Conditionality continues despite reform

Analysis

The issue of conditionality -- demands placed on recipients in exchange for a loan or grant -- is a continuing and contentious issue within the donor community. All donors attach some form of conditions to their assistance, but concerns about the form and effects of conditionality are especially prominent within the IMF and World Bank because of their roles at the centre of the aid system. Critics of conditionality -- especially non-governmental organisations (NGOs) and recipient governments -- have also tended to focus on the Bretton Woods institutions.

The breadth of stipulations attached to aid has evolved significantly:

• In the 1970s and early 1980s, the conditions typically involved meeting macroeconomic targets.
• Over time the list grew to include more detailed demands that came to be known as 'structural adjustment' and included more comprehensive changes for the economy.
• More recently, it has changed again -- both in substance and scope -- as part of broader efforts to make aid more productive (see INTERNATIONAL: Arguments over aid threaten development - June 7, 2005; see INTERNATIONAL: G8 aid pledge renews efficacy question - July 25, 2005).

Purposes of conditionality. There are two explicit rationales for conditionality:

• Financial safeguards. In the case of IMF and World Bank loans, conditions are justified on the basis of ensuring repayment and protecting their own future financial resources.
• Clarity. Explicit conditions are intended to be a clear signal to recipients of what actions or targets must be reached in order to receive further funds.

There are also two political motivations:

• Taxpayer value. Since taxpayers in the donor countries finance most aid, agencies need to show that funds are being used efficiently and not wasted on ill-advised policies. Similarly, resources for debt relief are supposed to be directed only to 'deserving' countries (see INTERNATIONAL: Aid key to debt-relief deal impact - June 13, 2005).
• Leverage. Aid is a 'carrot' that may be used to entice countries to make changes while the withdrawal of aid is a possible 'stick' to punish those that fail to meet expectations.

Critiques of conditionality. While many reasons behind conditionality may seem valid, they have come under attack from many quarters:

• Intrusive. Recipient governments complain that conditions infringe on their sovereignty and NGOs often claim that they give external donors too much influence on domestic policy decisions. Asymmetry of influence is probably unavoidable since the flow of funds is in one direction, but many of the NGOs' complaints are unfounded.
• Burdensome. Conditions have grown in number and scope, threatening the ability of recipients to meet all demands. Multiple donors -- each with their own agendas -- working in the same countries complicate this. Too many conditions are also thought to undermine recipient governments' prioritisation of policy actions.
• Ineffective. The most salient critique is that conditions rarely lead to the intended changes -- for instance, structural adjustment has involved very little actual adjustment. Within aid bureaucracies, incentives are often not aligned with enforcing conditionality, particularly where aid officials are rewarded for keeping open projects . Moreover, aid is rarely influential enough to tip the balance in favour of reforms that were not already intended and governments have learned how to evade conditions they would rather avoid.

Donor reaction. In response to these criticisms, conditionality has evolved:

• Ownership. Donors have recognised that 'ownership' of policy changes is required for effective implementation, but there is an inherent tension in trying to encourage governments to own policies they are not already undertaking. Indicative of this is a recent IMF admission that Fund staff, not country authorities, almost always draft 'letters of intent' -- which lay out government plans.
• Streamlining. Donors have attempted to reduce and harmonise the number of conditions, especially through the provision of general budget support -- where multiple donors provide aid under a common framework. The EU has formally dropped explicit conditions; most bilateral donors have moved toward a more subtle approach; and the Bretton Woods institutions have sought to streamline their conditionality systems.

New conditionality. Recently, donors have shifted their focus away from old-style conditionality towards performance and process-based models:

• Performance based conditions. Instead of agreeing to a loan in exchange for promises of future policy changes, donors are allocating resources based on results and performance. The World Bank already allocates funds for poor countries based on a performance score, while the US Millennium Challenge Account uses transparent performance data to determine eligibility (see UNITED STATES: Tight budget constrains foreign aid - January 5, 2005). Another innovation is output-based aid, where the amount of money given is linked directly to audited results such as the number of poor homes connected to the electricity grid. This approach to conditionality has become more prevalent as development agencies have moved away from loans to providing grants.
• Process conditionality. Rather than creating conditions around specific policies, donors have also moved toward supporting more participatory and open policy-making processes which are thought to enhance country buy-in and legitimacy. This is the rationale for the poverty reduction strategy paper (PRSP) process, initially conceived as part of the eligibility for debt relief, where country development strategies are subjected to multiple rounds of consultations with civil society. The results of this are mixed, but in some cases the PRSP is viewed merely as an extra layer of conditionality.

Inevitability. Despite the bad reputation that conditionality has acquired, aid invariably is going to come with conditions. Given the role of the IMF and World Bank as gateways to other donors, conditions for their programmes are probably the most critical to fix. However, the hopes of recipients and NGOs that conditionality will disappear are unlikely to be met. Indeed, the mere fact that countries are seeking aid is itself a sign of policy deficiency. At the same time, the leverage of donors has been overstated -- most of the recipient governments have learned how to manipulate the process to keep aid flowing, while making changes only that suit their needs. Therefore, donors will continue to struggle with reforming conditionality to make it work more effectively. However, the inherent tensions and multiple purposes suggest that it always will be problematic.