A long-term approach to helping the poor in Africa through private enterprise
By Rhett Butler, mongabay.com
July 5, 2005 Update (Originally appeared May 24, 2005)
This past Saturday millions of people watched the anti-poverty "Live 8" concerts held in London, Tokyo, Johannesburg, Paris, Rome, Berlin, Moscow, Philadelphia and Barrie, Canada. Live 8 coincides with tomorrow's G8 summit of world leaders and aims to raise awareness of the need for aid, debt relief and fairer trade for Africa. While the cancellation of debt and delivery of aid to Africa is a noble and needed cause for a desparately poor continent, policy makers will need to ensure that funds are spent wisely to maximize the benefits for the largest number of Africans.
Well to start, in many cases corrupt regimes have consumed massive amounts of aid. In the past aid -- especially from America -- was often tied to political agendas and went to supporting regimes that really had no business receiving aid. More money went to feeding strategic alliances with countries that were "poorly run, or not that poor," as phrased by The Economist. Often, direct aid has not only bred corruption and the misallocation of resources away from those who need it most, but it has also fostered dependency and skewed the perceived value of goods and services.
So is there a better way to help the planet's poorest people? C.K. Prahalad believes there is. In his book, The Fortune at the Bottom of the Pyramid: Eradicating Poverty Through Profits, Prahalad argues that by regarding the world's masses, who he terms "the bottom of the pyramid," as potential customers, businesses and the poor will be better off. Prahalad suggests that the private sector may do a better job eradicating poverty, building dignity and respect, encouraging entrepreneurship, and reducing dependency than handouts under traditional aid programs. Prahalad writes,
For more than 50 years, the World Bank, donor nations, various aid agencies, national governments, and lately, civil society organizations have all fought the good fight but have not eradicated poverty ... If we stop thinking of the poor as victims or as a burden and start recognizing them as resilient and creative entrepreneurs and value-conscious consumers, a whole new world of opportunity will open up. Four billion poor can be the engine of the next round of global trade and prosperity ... [and] a source of innovations.
The Fortune at the Bottom of the Pyramid: Eradicating Poverty Through Profits by C.K. Prahalad
From the Back Cover
The world's most exciting, fastest-growing new market? It's where you least expect it: at the bottom of the pyramid. Collectively, the world's billions of poor people have immense entrepreneurial capabilities and buying power. You can learn how to serve them and help millions of the world's poorest people escape poverty.
The Mystery of Capital: Why Capitalism Triumphs in the West and Fails Everywhere Else by Hernando de Soto
The poor as a market are 5 billion strong. This means that solutions that we develop cannot be based on the same patterns of resource use that we expect to use in developed countries. Solutions must be sustainable and ecologically friendly... In the US each person generates 4.62 pounds of waste per day. If everyone is China adopted Western standards of waste per capita, there would be more than 5.5 billion pounds of waste per day. There are not enough places to dump this amount of garbage... With 5 billion potential users, per-capita consumption of all resources ... can be crucial... Reducing resource intensity must be a critical principle in product development.
Why some people have a problem with the 1% initiative
Some are skeptical of the usefulness of calling for immediate large increases in aid. They argue that without making fundamental changes in how aid is used and distributed that it will result mostly in waste. Some critics even contend that sharply increased aid could actually be counterproductive by feeding corruption.
- Under-developed legal structure. In many countries the absence of enforceable contract law means that private sector commerce is conducted through black markets which neither attract capital or are particularly efficient. Further, a lack of clear legal title means that much of some countries' economic potential is tied up as trapped resources, or "assets that cannot be converted into capital because of underdeveloped legal frameworks and institutions" (a concept coined by Henardo De Soto in The Mystery of Capital).
- Inability to enforce existing laws. The implementation of existing laws is critical to the development of a thriving private sector. Inconsistencies in enforcing laws, through bureaucratic interpretation of rules, opaque legal processes, and microregulations, can result in corruption that significantly hinders the private sector. "Corruption is a market mechanism for privileged access," says Prahalad.
According to The Economist the MCA "takes its inspiration from a group of World Bank economists, principally Craig Burnside and David Dollar, who argued that aid only works in countries pursuing sound economic policies." The MCA uses "no fewer than 16 different indicators of a country's honesty and soundness, including its credit rating, its treatment of civil liberties, its spending on health and education, and how long it takes to start a business."
The first recipient of aid under the MCA was the Indian ocean island nation of Madagascar, one of the poorest countries on Earth. Under the agreement signed April 18, 2005, the country will receive $110 million over four years, money that Madagascar will use for supporting projects of its own design. The MCA asks only that projects be novel and deliver measurable impact on economic growth. Madagascar, where the average person lives on about $1 a day, certainly qualifies as a place where wealth creation for the "bottom of the pyramid" is needed.
Just four years ago, Madagascar probably would have been a long shot for aid under the MCA. The country was run by a military strongman, Didier Ratsiraka, under whose four decades of rule the economy stagnated, the quality of life plunged, and civil liberties were often trampled. Change was brought about in 2002 with the election of the capital city's mayor, Marc Ravalomanana as president, though the regime change did not come easily. Former president Ratsiraka's challenge of the election result nearly brought the country to civil war before he fled into exile.
President Ravalomanana has thus far proved to be a capable reformer who grades his ministers on their performance while cracking down on corruption and courting western business interests. The United States liked the way his government was running the country and a year ago notified Ravalomanana that Madagascar could apply for a Millennium Challenge grant.
Because roughly 75% of Madagascar's population lives in rural areas, initiatives for stimulating growth while alleviating poverty differ from strategies used in other parts of the world. As Emma Ralijohn, the director of the MCA effort in Madagascar, put it in an interview with The Wall Street Journal, "We can't just build factories in the cities -- there would be economic growth, but not poverty reduction." Instead, relying on feedback from the Malagasy themselves, government officials came up with a plan that will use funds from the MCA to address two of the most critical bottlenecks in achieving broad-based economic growth and poverty alleviation -- the archaic system for land ownership and the banking system.
In banking, Madagascar has been long plagued with a system that encourages banks not to lend money to the general population. Banks can earn lucrative revenue simply by holding government bonds that pay around 18% interest and floating checks for weeks on end. With MCA funding, the government aims to make bonds available to individual investors who will then have more reason to save their earnings in bank accounts (currently only 200,000 of Madagascar's 18 million have bank accounts). Banks would need to look elsewhere for revenue, something which help pave the way towards a banking system that would enable small entrepreneurs to take out microloans to grow their businesses and stimulate the economy. In The Fortune at the Bottom of the Pyramid, Prahalad has argued that such credit facilities are key to reducing poverty through wealth creation at the bottom of the pyramid.
While Madagascar is still a long way from seeing whether these reforms are successful or even possible, the MCA has brought the country a great deal of hope. Back in America, there is debate over whether the MCA's conditions are too strict. Critics argue that in the three years since its inception the program has granted funds only to Madagascar, totaling a mere $110 million out of the $2.6 billion budget for 2004-2005 (already scaled back from $5 billion). There is also concern that the MCA could exacerbate a phenomenon recently documented by the World Bank's Monitoring Report whereby poor countries are "dividing into 'aid orphans,' bereft of any patron, and 'aid darlings,' doted on by competing agencies. The danger is that the MCA's all-or-nothing, in-or-out criteria might make this polarization worse," according to The Economist.
Poverty alleviation through profits
There is little doubt that creating wealth among the world's poor is a noble endeavor that would generate immediate benefits in terms of health, the economy, and even the environment. Whether or not this is an attainable goal rests on the shoulders of many parties from local and national governments to international development organizations to private enterprises, and requires innovations in product development, marketing, and distribution. The MCA and other reformed aid programs may serve as a carrot to spur change in otherwise inept and corrupt governments. As Prahalad puts it, "The development of markets and effective business models at the BOP can transform the poverty alleviation task from one of constant struggle with subsides and aid to entrepreneurship and the generation of wealth. When the poor at the BOP are treated as consumers, they can reap the benefits of respect, choice, and self-esteem and have an opportunity to climb out of the poverty trap."
This article used information and, in some cases, quotations from the following:
- Prahalad, C. K. The Fortune at the Bottom of the Pyramid: Eradicating Poverty Through Profits. Wharton School Publishing (2004)
- de Soto, Hernando The Mystery of Capital: Why Capitalism Triumphs in the West and Fails Everywhere Else. Basic Books (2003)
- Phillips, Michael M. "New Bush Strategy On Aid Faces Test In Madagascar," THE WALL STREET JOURNAL (April 18, 2005)
- -- "A choosier approach to aid." The Economist (Apr 21st 2005)
- -- "C. K. Prahalad, profits and poverty." The Economist (Aug 19th 2004)
Other links of interest
- Microcredit helps women entrepreneurs in India: With Loans, Poor South Asian Women Turn Entrepreneurial, excerpt from WSJ.com
NextBillion.net: Development Through Enterprise; Eradicating Poverty through Profit
international aid community