*EPF311 02/26/2003
Excerpt: White House Lays Out Growth Agenda for Global Economy
(Economic report explains policy initiatives to advance it) (7050)

Securing economic freedom, governing justly and investing in people are key principles for promoting world economic growth, the White House says in a recent report.

The principles are presented as the foundation of Bush administration's growth agenda for the global economy in its 2003 "Economic Report of the President," which was sent in February to Congress.

While the three factors are important in all countries, the report says its primary focus is on growth potential in low- and middle-income countries.

"Adoption of these principles creates an environment where market signals lead to better economic performance," the report says.

The administration said the United States is ready to address the challenge of improving this performance around the globe, "so that more people can share in the benefits that come with growth."

The report says that to advance the agenda the administration has undertaken three initiatives that are consistent with the pro-growth principles. It says the administration has:

-- obtained Trade Promotion Authority from Congress to negotiate and conclude trade liberalization agreements with other countries or regions in a "streamlined fashion;"

-- launched the Millennium Challenge Account program to provide financial assistance and incentives to developing countries that demonstrate a commitment to the growth principles;

-- urged reform of the multilateral development banks, including the World Bank, to increase their effectiveness in promoting economic growth by shifting their focus to measurable results and productivity-enhancing projects.

The administration believes, the report says, that pursuing these policies will help restore the flow of investment -- essential for creating higher-productivity jobs and raising living standards -- to low- and middle-income countries, which experienced a significant fall in private capital inflows in the 1990s.

Following are excerpts from the report:

(Note: In the text "billion" equals 1,000 million.)

(begin excerpt)

CHAPTER 6

A Pro-Growth Agenda for the Global Economy

Many developing countries throughout the world have taken important steps in recent years to promote the growth of their economies. Their actions have lifted millions out of poverty, improved the health of their populations, and contributed to progress in addressing environmental challenges. Other countries, including some of the world's poorest, have had less success in achieving and sustaining strong economic growth. Developed and developing countries alike face the challenge of improving economic performance around the globe, so that more people can share in the benefits that come with growth. The United States stands ready to address that challenge.

This chapter lays out some key factors that have been found to promote and sustain faster economic growth. Although these factors are important in all countries, the chapter's primary focus will be on growth and development in low-and middle-income economies. Three broad principles -- securing economic freedom, governing justly, and investing in people -- underlie these key growth-promoting factors and provide the organizing structure for the discussion. Adoption of these principles creates an environment where market signals lead to better economic performance.

Economic freedom promotes growth by encouraging competition and entrepreneurship. Securing this freedom requires creating a stable domestic macroeconomic environment with low inflation, regulating appropriately, encouraging entrepreneurial initiative, and opening to the global economy. Governing justly means establishing the rule of law, controlling corruption, and guaranteeing political freedoms; all of these help develop trust in the accountability and reliability of the government, which in turn encourages entrepreneurship. Investing in people means devoting resources to enhancing the productive capacity and well-being of the general population, in particular through improvements in education and health. Countries that ignore this task will see their economic growth suffer, because people who are in poor health or poorly educated are less productive.

No one of these principles suffices to guarantee strong growth; all three are mutually reinforcing aspects of a pro-growth agenda. Actions by the United States, the broader international community, and the international financial institutions can help developing countries improve their economic performance. But creating the proper incentives for domestic growth ultimately depends on decisions by those countries' own citizens and governments.

The Administration has undertaken three important international economic policy initiatives that are consistent with these pro-growth principles. First, it has sought and obtained from the Congress authority for the President to negotiate and conclude trade liberalization agreements with other countries in a streamlined fashion; the agreements reached under Trade Promotion Authority will increase the integration of the world's economies, especially those of developing countries. Second, the Administration has launched the Millennium Challenge Account program, which will extend additional developmental aid to the world's poorest countries provided they have adopted pro-growth policies. Third, the Administration has called for reform of the multilateral development banks, including both the World Bank and the regional development banks, to increase their effectiveness in spurring economic growth through greater emphasis on measurable results and activities that increase productivity, including private sector development.

In August of last year, the Congress granted the President Trade Promotion Authority (TPA) through the Trade Act of 2002. This legislation authorizes the President to negotiate trade liberalization agreements with other countries and commits the Congress to a yes-or-no vote, without amendments, on any agreements reached under this authority. The President's enhanced ability to engage in international trade negotiations under TPA will help the United States conclude agreements that will increase competition, boost productivity, and promote growth in both the United States and its trading partners. TPA will enhance U. S. influence and effectiveness at the trade negotiating table and will bring economic benefits to American families, workers, farmers, and firms. Current U. S. proposals for trade liberalization of nonagricultural goods alone could save Americans about $18 billion a year in import taxes, resulting in$1,600 worth of benefits annually for an average family of four. This renewed negotiating authority will also promote prosperity in our trading partners, including developing countries. Indeed, those countries that are now the least integrated into the world economy -- including many of the world's poorest -- stand to gain the most in proportion to their current incomes from the increased openness that TPA makes more likely.

The Administration is already engaged in negotiating trade agreements in a variety of contexts, including the multilateral negotiations organized under the auspices of the World Trade Organization as well as regional negotiations, such as those toward a Free Trade Area of the Americas, and various bilateral free trade negotiations. All of these initiatives seek to promote economic growth by decreasing barriers to trade in goods and services and establishing effective procedures for settlement of international disputes involving trade. Moreover, the rules-based trade agreements that are the object of these negotiations will provide incentives for developing countries to improve their own domestic institutions to provide greater transparency, strengthen the rule of law, and improve the protection of property rights.

The second major Administration initiative, the Millennium Challenge Account (MCA), will provide grants in aid to those developing countries that qualify by fostering and maintaining an environment conducive to economic growth. Funding for the MCA will increase over 3 years to a total of $5 billion in 2006, an almost 50 percent increase over current U. S. bilateral development assistance. Recipients of MCA grants will be chosen by their demonstrated commitment to the three principles mentioned at the outset: securing economic freedom, governing justly, and investing in people. The specific MCA criteria associated with each of these principles are described in more detail later in this chapter.

The Administration's third pro-growth initiative involves reform of the multilateral development banks (MDBs). Meaningful reform of these institutions will raise economic growth and prosperity in poor countries around the world by encouraging the MDBs to focus on increasing productivity growth in those countries. The MDBs can do this by fostering innovation to support private sector development, insisting on measurable results as a condition for continued aid, and delivering an increased share of total assistance in the form of grants rather than loans.

The Administration believes that pursuing the pro-growth policies outlined in this chapter will help restore the flow of investment to low-and middle-income countries. This flow was interrupted by frequent and severe economic and financial crises in some of these countries during the 1990s. Net international private capital flows, which averaged more than $150 billion a year from 1992 to 1997, fell to less than $50 billion a year in 1998-2000. Restoring strong private investment flows into low-and middle-income countries will help create higher productivity jobs and raise living standards. The chapter begins by laying out some basic facts about economic performance and social indicators in the developing world. It then discusses the three principles enunciated above and how they have been shown to lead to faster economic growth. Finally, the chapter discusses the Administration's three major initiatives and how they embody pro-growth principles.

The Administration's Policies to Enhance Growth

The discussion thus far has made it clear that creating the right environment for growth in developing countries requires, above all, actions by those countries themselves. To complement and reward their efforts, the Administration has put forward three initiatives that will spur growth in developing countries and elsewhere by helping to create an environment in which incentives can improve economic opportunities. Trade Promotion Authority will help the President conclude trade agreements that will further integrate developing countries into the global marketplace and increase growth. The Millennium Challenge Account will increase development aid to countries that are pursuing policies and building institutions that adhere to the principles of good governance. The Administration's proposals to redirect the funds and priorities of the multilateral development banks will also help developing countries improve their growth prospects.

All three initiatives are consistent with the pro-growth principles that this chapter has laid out. The Administration's focus, under TPA, on trade liberalization within a rules-based system is based on the principle of openness to goods and capital flows, as well as the promotion of legal institutions and the rule of law. The MCA incorporates all of the principles described above by integrating them into the criteria used to determine the awarding of grants to developing countries. Reform of the MDBs will encourage private sector growth and effective economic management in the countries they serve.

Trade Promotion Authority

The significance of TPA is that it enhances the President's ability to negotiate trade agreements, by assuring foreign governments with which the United States negotiates that the Congress will vote yes or no on those agreements without amendment. The Congress retains its primary constitutional authority to regulate foreign commerce, and the Administration will continue to consult Members of the Congress frequently on matters relating to the course of trade negotiations.

The agreements made possible by TPA will benefit the United States by creating new export opportunities and lowering prices for imported goods and services. But TPA will also foster growth in developing countries by increasing competition. The rules-based agreements will also promote institutions in developing countries that will help them take full advantage of trading opportunities.

The increased integration of developing countries into the global market-place has already brought those countries enormous benefits. Research suggests that a 1 percent increase in a country's trade relative to its GDP [gross domestic product] is associated with an increase in its income per capita of 3 percent. Moreover, evidence suggests that it is increased trade that leads to increased income rather than the reverse. A recent study suggests that the full implementation of trade liberalization under the Uruguay Round of multilateral trade negotiations, completed in 1994, increased developing countries' income by 0.8 percent, double the percentage increase accruing to the developed world. India's GDP is estimated to have risen an even greater 1.1 percent of GDP as a consequence of the same liberalization commitments.

Further trade liberalization will continue to raise world income. A recent World Bank study suggests that the elimination of all tariffs, export subsidies, and domestic production subsidies on goods would raise annual world income by $355 billion by 2015, with middle-and low-income countries receiving 52 percent of that increase. Another study suggests that if world barriers to trade in agricultural and industrial products and to trade in services were reduced by one-third, the gains to the United States alone would translate into additional annual income of $2,500 for the average American family of four.

The President's new trade negotiating authority has already resulted in the successful completion on the substance of free trade agreement (FTA) negotiations with Singapore and Chile. These agreements cover a wide range of issues, including, among others, the eventual elimination of tariffs, increased openness to trade in telecommunications and other services, transparency requirements, protections for foreign investors, and provisions for enforcement of labor and environmental standards. One study suggests that although the net benefits to the United States from these two FTAs will be relatively modest (0.05 percent and 0.18 percent of GDP, respectively), the benefits to Chile and Singapore will be proportionately greater (0.6 percent and 2.7 percent of GDP, respectively).

TPA will provide an impetus to conclude a number of other trade agreements currently under negotiation, most of which are with developing countries. These negotiations include the ongoing discussions with countries in the Western Hemisphere toward a Free Trade Agreement of the Americas (FTAA) and the recently inaugurated talks with Australia, Morocco, the countries of Central America (Costa Rica, El Salvador, Guatemala, Honduras, and Nicaragua), and the countries of the South African Customs Union (Botswana, Lesotho, Namibia, South Africa, and Swaziland). The commitment of the United States to conclude these talks under TPA reflects the Administration's determination to advance pro-growth trade liberalization, especially in the developing world.

The FTAA, in which 34 countries in North, Central, and South America will participate, is the most complicated and far-reaching of the regional trade agreements toward which the United States is currently negotiating. One study suggests that, when the FTAA is in place, the United States could experience a 0.6 percent increase in GDP, and the combined GDPs of the Latin American participants (excluding Mexico and Chile) could increase by 1.1 percent. The same study suggests that Mexican and Chilean GDP would rise by 0.8 percent and 2.5 percent of GDP, respectively, as a result of the FTAA.

As with the FTAs with Chile and Singapore, the benefits of these bilateral and regional agreements are proportionately larger for other countries than for the United States, although smaller in absolute dollar terms. The reason for the asymmetric effects is straightforward: the U. S. economy is so large relative to these trading partners that the economic benefits of FTAs with them will be small as a share of U. S. economic activity. In addition, U. S. trade barriers are already low on average, so that the impact at home of further trade liberalization will be modest. For example, the U. S. economy in 2001 was 151 times larger than the Chilean economy, and trade in goods with Chile (exports plus imports) amounted to only 0.4 percent of total U. S. trade. U. S. tariffs in 2001 averaged 1.6 percent, compared with average Chilean tariffs of 8 percent; thus the costs of current trade barriers fall more heavily on Chile. However, U. S. exporters of goods and services and U. S. investors will be able to operate more freely in a fully liberalized Chilean market.

Despite their modest effects in relation to total U. S. output, these agreements are important to the United States as part of the broader U. S. effort toward multilateral reduction in trade barriers under the auspices of the World Trade Organization (WTO). TPA will be especially important for the United States and developing countries by helping bring the current WTO negotiations to fruition. The importance of further integrating developing countries into the world trading system is reflected in the name given to these negotiations: the Doha Development Agenda. (Doha, the capital city of Qatar, is the site of the WTO ministers' meeting where the agenda was launched.)

The United States has offered bold proposals in the Doha negotiations for the reduction of trade barriers on agricultural and nonagricultural goods. The agricultural initiative proposes to reduce agricultural tariffs, limit governments' support of agriculture to 5 percent of the domestic value of production, and eliminate agricultural export subsidies. The Administration has also proposed that, by 2010, WTO members eliminate all tariffs on nonagricultural goods that are currently below 5 percent and sharply reduce the rest, including those on textiles and apparel. Going further, the Administration has proposed that all nonagricultural tariffs be eliminated in all WTO member countries by 2015.

The reduction and eventual elimination of tariffs on goods is but one aspect of the U. S. trade liberalization agenda in the WTO negotiations. The United States has put forth over a dozen proposals to reduce barriers to trade in an array of services industries. In addition, the United States has advocated greater regulatory transparency, both through general disciplines and through rules applicable to specific industries, such as financial services. This initiative reflects the assessment, discussed above, that regulatory quality is key to economic outcomes.

These liberalization initiatives will bring important benefits to U. S. firms, workers, consumers, and farmers, both from increased exports and from lower priced imports. The U. S. agricultural and nonagricultural market access proposals are of particular importance to developing countries, since many expect to increase their exports of agricultural goods as well as textiles and apparel to developed countries if barriers are reduced. However, developing countries can also expect important efficiency gains and faster growth as they remove their own barriers.

The economic effects of the current WTO negotiations cannot be examined in detail until the outlines of the final agreement become clearer. One study provides some sense of the possible outcome, however, by analyzing a hypothetical 33 percent reduction of trade barriers across all sectors. In this scenario U. S. GDP rises by 2 percent, that of Europe (the countries of the current European Union and the European Free Trade Area combined) by 1.5 percent, and that of Japan by 1.9 percent. The same study also predicts large increases in GDP in developing countries, including the Philippines (5.4 percent), South Korea (2.5 percent), Mexico (1.8 percent), Chile (2.4 percent), the rest of Latin America (1.4 percent), and the Middle Eastern and North African countries (1.9 percent).

These estimated effects of trade liberalization take into account only its static impacts, such as a reallocation of resources to more efficient uses and the benefits accruing to consumers from lower prices. The estimates do not capture the dynamic effects on growth, such as those arising from greater economies of scale, productivity gains, and access to improved technologies, that increased openness would bring. Including these effects could substantially boost the impact of trade liberalization. For example, the World Bank study previously cited found that, by 2015, world income would increase by another 134 percent, with 65 percent of that increase going to developing countries, in response to the multilateral elimination of all trade barriers. Thus, including dynamic effects increases the impact of liberalization but also increases the potential benefits accruing to developing countries.

The conventional estimates also typically fail to capture gains in services trade, in large part because quantifying barriers to such trade can be difficult. Nonetheless, services are becoming more important to developing countries, with their average share in GDP rising from an estimated 40 percent in 1965 to 50 percent in 1999. Removing barriers to services leads to lower costs and greater efficiency in such important sectors as telecommunications, e-commerce, transport services, professional services, and financial services. A World Bank study suggests that multilateral liberalization in the services sector alone would increase combined developing-country GDP by nearly $900 billion, a gain nearly five times greater than the anticipated benefits of merchandise trade liberalization.

Of all the trade liberalization initiatives currently on the agenda, the United States and its developing-country partners stand to gain the most from completion of the WTO negotiations, but the bilateral and regional agreements will also bring benefits. For example, a 33 percent cut in all global tariffs could lead to gains in U. S. and Chilean GDP of $177 billion and $1.9 billion, respectively, and an increase in world GDP of $612 billion. The U. S.-Chile FTA would increase U. S. and Chilean GDP by $4.2 billion and $479 million, respectively.

Some have argued that a focus on regional and bilateral trade liberalization could undermine the broader process of multilateral trade liberalization and the WTO as an institution. However, the Administration sees these bilateral and regional agreements as part of a strategy of "competitive liberalization," that is, as steppingstones to worldwide trade liberalization rather than as a stumbling block. In other words, the bilateral, regional, and multilateral prongs of the Administration's strategy for trade negotiations are intended to work in concert, to help achieve the broadest possible degree of trade liberalization in the United States itself and among the greatest possible number of its trading partners.

Trade agreements negotiated by the United States have had, and will continue to have, other indirect benefits to economic performance. The rules-based nature of modern trade agreements helps encourage the development of institutions consistent with the pro-growth principles enunciated in this chapter. In particular, transparency, rule of law, contract enforcement, and property rights are all part of recent U. S. rules-based trade agreements. The introduction of bilateral and multilateral trade and investment commitments can help transform economies in ways that foster these pro-growth policies. For example, rules-based trade agreements enhance the transparency of government actions. Trade commitments must be cataloged, organized, and made public, not only to trading partners but also, ultimately, to domestic constituencies. As citizens become accustomed to public transparency and accountability in trade policy, they may be more likely to demand similar transparency in other aspects of their country's public policy. Such account-ability limits government's ability to make arbitrary decisions and thus ultimately creates better conditions for strong growth. In some respects, domestic reforms reinforced by the rules-based trading system have already taken hold in China.

Trade agreements also encourage the rule of law and the enforcement of contracts. All such agreements require that governments write down their rules governing trade, and in most agreements, governments agree to submit trade disputes to external review by third-party panels. Governments that know that their actions can be reviewed by external and impartial dispute settlement bodies may be less likely to enforce laws arbitrarily. Similarly, foreign firms can resort to a dispute settlement panel if a trading partner fails to enforce legally binding contracts. As domestic firms and individuals become more familiar with the legal procedures available to foreigners within the country, they may pressure their government for similar nonarbitrary decisions and legal protections in internal matters. Once again, the external commitment may help with internal reform.

A rules-based system also fosters the development of protection for property rights, especially through agreements that cover FDI. Many trade agreements, including the North American Free Trade Agreement and the bilateral FTAs between the United States and Israel and Jordan, and now Chile and Singapore, contain protections against uncompensated expropriation by governments. As these commitments to U. S. firms become widely known, domestic firms in those countries may expect similar guarantees.

The United States also extends special benefits to certain low-income countries through various programs including trade capacity building assistance, the Generalized System of Preferences, the Andean Trade Preference Act, and the African Growth and Opportunity Act (AGOA). AGOA, which was signed into law in May 2000, reduces trade barriers for Sub-Saharan African countries' products entering the United States below those required under the multilateral trade commitments negotiated under the WTO. However, countries in this region do not automatically qualify for lower U. S. tariffs. To be eligible, a country must have a market-based economy, and its government must be making efforts to limit its interference in the economy and must protect property rights. In addition, the government must under-take economic policies that aim to reduce poverty, improve health, and promote private enterprise. Finally, eligible countries must be taking steps to combat official bribery and improve labor rights. In short, through AGOA the United States offers lower trade barriers to poor countries in Sub-Saharan Africa that are making efforts to pursue good policies and promote good institutions. The principles behind AGOA are thus very similar to those of the second major new Administration initiative, the Millennium Challenge Account, which is discussed next.

The Millennium Challenge Account

In March 2002 the President proposed a new program designed to promote growth in developing countries. Over the next 3 years, the Millennium Challenge Account will increase annual U. S. bilateral development assistance by $5 billion, a 50 percent increase over current levels. MCA funds will be used to support activities that directly contribute to economic growth and poverty alleviation. MCA programs will be implemented by the private sector, nongovernmental organizations, and public sector agencies. The MCA will strive to achieve within recipient countries a broad coalition around development investments. Because MCA aid will be in the form of grants, not loans, in accordance with the policy set forth by the President at the Group of Eight summit in 2001, this development assistance will not increase the debt burden of recipient countries.

The MCA is based on the fact that development assistance is most effective when funds flow to countries that have already adopted policies and created institutions that promote growth. In other words, only those countries that have taken concrete steps themselves to improve their condition will be potential MCA recipients. The MCA approach has the added advantage that, as countries strive to qualify for U. S. grants, they will be implementing policies that also encourage inflows of private capital and increased trade, the real engines of sustained economic growth.

Countries receiving MCA assistance must be active partners in the development programs funded by the MCA. Each country selected for aid will negotiate and sign a contract with the MCA, which will specify the following: a limited number of clear, quantifiable goals; concrete benchmarks that specify the time needed to accomplish the tasks; commitments to financial accountability; and conditions under which the contract would be terminated. MCA resources are meant to complement and enhance specific efforts and policies undertaken in the participating countries; indeed, the MCA program will not impose a development plan designed by others, but rather recognizes that the countries themselves are in the best position to evaluate their own needs. In short, MCA recipients must take responsibility for their own development programs.

Monitoring and evaluation to ensure accountability for results will be an integral part of every activity for which MCA funds are used. Monitoring and evaluation will be conducted by the MCA administrative structure or by third-party contractors, or both. To facilitate such monitoring, all contracts will include baseline data against which progress can be measured. The U. S. Government will provide technical assistance to help countries establish these credible baseline data. Every contract will specify regular benchmarks for evaluating progress and provide for the corrective actions necessary to keep the program on track. All evaluations and all terms of the contract will be made public in the United States and in the host country.

MCA contracts will fund projects for a limited term and include provisions for a midterm review. Programs will continue to receive funding under the terms of the country's MCA contract unless the country fails to meet the contract's conditions for performance. Funding for all or part of a particular MCA contract may be scaled back or ended for failure to meet financial standards or specific benchmarks. In addition, a country's participation in the MCA may be terminated for failure to adhere to the three fundamental principles laid out earlier in this chapter -- economic freedom, governing justly, and investing in people -- as indicated by an absolute decline in the policy environment. Participation may also be terminated in the event of material change such as a military coup.

Allocation of MCA resources will be based primarily on quantitative benchmarks in order to ensure procedural accountability and transparency. These criteria will focus on the three broad principles just mentioned. Use of published, quantitative measures will also help countries understand why they did or did not qualify to receive MCA funds. This knowledge will enable countries to identify where they need to improve their policies in order to qualify for future grants. Table 6-2 lists the 16 specific indicators (and the initial public sources for the data) for the three MCA principles. These indicators were chosen because of their quality and objectivity, country coverage, and public availability.

TABLE 6-2. -- Millennium Challenge Account Indicators

Indicator Principle Source Indicator Source

Economic freedom Country credit rating Institutional Investor
Inflation International Monetary Fund
Budget deficit International Monetary Fund
Trade policy Heritage Foundation
Regulatory quality World Bank
Days needed to start a business World Bank

Governing justly Control of corruption World Bank
Rule of law World Bank
Civil liberties Freedom House
Political rights Freedom House
Voice and accountability World Bank
Government effectiveness World Bank

Investing in people Public primary
education spending as percent of GDP World Bank, national sources
Primary education completion rate World Bank, national sources
Public expenditure on health
as percent of GDP World Bank, national sources
Immunization rates:
DPT and measles(1) World Bank, national sources

(1) Immunization for diphtheria, pertussis, and tetanus and for measles.
Source: Millennium Challenge Account fact sheet, The White House

As described previously, economic freedom broadly encompasses the freedom to start a business, hire workers, invest, and make other business and personal decisions without undue government interference. In the MCA process, economic freedom will be measured by six publicly available criteria: country credit ratings, inflation rates, budget deficits, measures of openness to trade, measures of regulatory quality, and the number of days it takes to start a business. Country credit ratings are included because they contain useful summary evaluations by private sector sources of the country's macroeconomic situation. Inflation rates and budget deficits are included to capture those aspects of macroeconomic stability so important to growth. Trade policies, including the degree to which imports are subject to tariffs and nontariff barriers, as well as the extent of corruption in the national customs service, will measure the extent to which a country's policy environment allows it to take advantage of global markets. Finally, regulatory quality and the time it takes to start a new business provide quantitative measures of the environment for entrepreneurial activity.

The second principle -- governing justly -- involves various facets of good governance and good institutions that help sustain a pro-growth environment. The inclusion of criteria that embody this principle reflects the important complementary role of the quality of institutions in improving economic performance. The criteria will measure the extent to which citizens of a country are able to participate in the selection of governments, the freedom to develop views and institutions independent of the state, the role of elected representatives in policy formation, the control of corruption, and the rule of law. These are important indicators of whether there is political accountability in the country.

Measures of governing justly will be based on surveys by the World Bank and Freedom House, a nonprofit, nonpartisan organization. Rankings will be based on the following criteria: civil liberties, political rights, voice and accountability, government effectiveness, rule of law, and control of corruption. Assessment of the rule of law, which, as discussed above, is important to investor and entrepreneurial confidence, will cover such factors as the effectiveness of the judiciary and the enforceability of contracts. Ratings of political rights and civil liberties will be determined through a compilation of foreign and domestic news reports, publications by nongovernmental organizations, policy center research, and academic and professional analysis.

The third principle -- investing in people -- involves public commitment to developing human capital through education and improved health. Here the quantitative criteria include public spending on primary education as a percentage of GDP, the share of children who have completed primary school by the national graduation age, public expenditure on health as a percentage of GDP, and immunization rates of children under 12 months for DPT (diphtheria, pertussis, and tetanus) and measles. The importance of education in maintaining and improving worker productivity is reflected in the inclusion of both a public education input (public spending on primary education) and an education output (the share of children completing primary school). As noted in the earlier discussion of pro-growth principles, improved health care is also important to better economic outcomes. Consequently, public expenditure on health care is included as an MCA criterion, along with immunization rates for some of the most common serious childhood diseases worldwide.

Countries must demonstrate commitment to and performance on all three principles to be deemed a "better performer" and thereby qualify for possible MCA assistance. Eligibility will be limited to those countries that score above the median on at least half of the indicators in each of the three areas. However, countries must score above the median on the corruption indicator to be considered for grants, regardless of their scores on other criteria. This requirement reflects the importance that corruption plays in whether or not development assistance achieves its aims. As noted above, reducing corruption supports the benefits of other good policies and of development assistance by building public trust in institutions, encouraging investment, and helping ensure that aid is put to pro-growth uses.

Candidate countries will be evaluated within one of two income categories. Initially, only countries with gross national income per capita below $1,435 (in 2001 dollars) will be eligible for grants. This level was chosen because it is the historical income threshold for assistance to the world's poorest countries from the International Development Association (IDA), the World Bank affiliate that specializes in assistance to the poorest countries. In subsequent years, the income threshold for eligibility will be raised to $2,975, the projected cutoff for the World Bank's designation for lower-middle-income countries. However, the two income groups (those with incomes per capita below $1,435 and those with incomes between $1,435 and $2,975) will continue to be evaluated separately. This separation is important because, as discussed above, higher income is associated with better social and economic indicators. Grouping the countries in this way will ensure that countries of similar income and economic development compete with each other. Countries prohibited by current statutory restrictions from receiving U. S. assistance will not be eligible. Qualifying as a better performer does not guarantee receipt of MCA funds. The MCA Board of Directors, composed of Cabinet-level officials and chaired by the Secretary of State, will make final recommendations to the President.

As already noted, the provision of grants rather than loans will ensure that the MCA program will not add to countries' debt burdens. The resources provided can then be allocated as intended, to development rather than debt service. Aid in the form of loans causes many heavily indebted poor countries to accrue even greater debt, which can hinder their growth. One study of 93 developing countries from 1969 to 1998 found that, for a country with average indebtedness, doubling the debt ratio (either the debt-to-exports ratio or the debt-to-GDP ratio) reduces annual growth of GDP per capita by between 0.5 and 1 percentage point.

Reforming the Multilateral Development Banks
The Administration believes that the World Bank and other multilateral development banks will be more effective in helping countries improve their living standards if, when distributing aid, they place greater emphasis on factors that improve productivity. The Administration's agenda for reform of the MDBs seeks progress toward better measurement, monitoring, and management of development assistance. The Administration also has pushed for an increase in the proportion of MDB assistance to the poorest countries that is delivered in the form of grants rather than loans.

MDBs will be more effective in reducing poverty if they address the basic causes of slow growth, including poor business environments and inadequate education and health care. This means that MDBs should help countries reduce the impediments that constrain the creation of high-productivity jobs in the private sector. To this end, the United States has secured agreement on a change in assistance strategies by the IDA. IDA funds will now include the distribution of resources to private sector development, in addition to the public sector uses that have been its traditional focus. This agreement creates the basis for expanded collaboration between the IDA and the International Finance Corporation, the World Bank Group's private sector finance arm. Such collaboration will help remove the obstacles to private sector-led growth in the world's poorest countries.

The Administration also believes that a major priority for the MDBs should be greater attention to measuring development results. Donor and recipient countries both benefit from quantifying the outcomes of assistance programs and understanding the reasons for success or failure. The recent IDA replenishment agreement calls for a fundamental shift of focus within the MDBs toward measurable results. IDA will also establish a system that tracks specific results in education, health, and private sector development. These innovations will allow donors to link their contributions to IDA to observable outcomes. This approach will help direct scarce donor dollars toward those activities and projects that are demonstrably improving people's lives. Furthermore, the Administration's position is that MDBs should expand similar results-based operational plans into all of its grant and loan programs.

Consistent with the MCA approach, U. S. leadership has resulted in a significant expansion of MDB grants for the world's poorest countries. In July 2001 the President called upon the World Bank and other MDBs to increase the proportion of their assistance to the poorest recipient countries that is provided as grants rather than loans. One year later, the United States finalized an agreement with other international donors on a substantial increase in grants. As a result of this agreement, IDA grant assistance for programs targeting education, HIV/ AIDS, health, nutrition, potable water, and sanitation will be increased. U. S. leadership was also crucial in obtaining agreement on an increase in grants for the recently concluded replenishment of the African Development Fund. These agreements significantly advance the Administration's policy objective of helping poor countries make productive investments without saddling them with ever-larger debt burdens.

The Administration recognizes that countries may sometimes face economic crises that can lead to sharp net outflows of capital. Countries will be well served if these crises can be managed effectively. Consequently, in parallel with MDB reform, the Administration believes that clarifying the size of official financing packages from the international financial institutions is essential to increasing predictability in the market, curbing excessive risk taking, and providing the right incentives for countries to pursue good policies. The Administration has worked to create a more orderly and predictable process for restructuring sovereign debt, so that the long-term growth of developing economies is not subverted by short-term crises. In particular, the Administration has proposed the incorporation of collective action clauses into sovereign debt contracts to facilitate a more predictable and transparent resolution of sovereign debt defaults when they do occur.

Conclusion

Economic growth has the potential to improve the lives of millions of people around the globe, both through higher incomes and through improvements in social indicators such as health outcomes. This chapter has laid out three broad principles for promoting growth.

Economic freedom is a critical prerequisite for the harnessing of entrepreneurial energy to improve productivity and increase growth. Macroeconomic stability, including low inflation and small fiscal deficits, helps create an economic environment in which people can plan and invest. Governments should avoid burdensome regulation, distortionary taxes, and nationalization of industries, because all of these lead to inefficiency and slow growth. Openness to inter-national goods, services, and capital brings with it exposure to world best practices and generates the competition that leads domestic firms and workers to enhance their productivity.

Poor institutions, especially those that fail to enforce property rights, promote the rule of law, and discourage corruption, can subvert good economic policy decisions. Entrepreneurs will be less willing to commit resources for the long term if they believe that arbitrary decisions by governments may rob them of the anticipated returns. Workers will be more reluctant to work hard if they believe the fruits of their labor will be seized by corrupt officials or criminals. Ultimately, promoting growth depends on appropriate policies, aimed at both macroeconomic stability and creating a supportive economic environment.

Investment in people, through improvements in both education and health, will support a work force that can fully utilize the opportunities created by sound policies and good institutions. Well-trained workers will be better able to make productive use of the capital available to them, both the existing capital stock and new investment. This will lead to higher productivity and enhanced growth. A healthy work force will be less prone to absenteeism, allowing a higher rate of utilization of capital, and this, too, will improve the country's economic prospects.

The Administration's initiatives -- the promotion of openness to the world economy through trade liberalization, and the new approaches to bilateral and multilateral development assistance -- are intended to complement developing countries' own efforts to improve their economic performance. TPA will help the United States reach agreements that increase trade and thus foster growth in developing countries. The MCA will provide both financial assistance to the least developed countries and incentives for them to implement pro-growth policies. Reform of the MDBs will complement the MCA initiative by focusing these institutions' funds on pro-growth efforts, especially in the private sector, and assisting the world's least developed countries through grants in aid. Through all these programs, the United States will stimulate worldwide economic development, raising incomes in developing countries and spreading prosperity both at home and abroad.

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(Distributed by the Office of International Information Programs, U.S. Department of State. Web site: http://usinfo.state.gov)

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