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New Sources of Development Finance

by A. B. Atkinson

Mobilizing additional finance to meet the challenges of the Millennium Development Goals (MDGs) is an urgent priority. Developing countries are themselves mobilizing resources to meet the MDG targets by 2015, but they will fall short without additional external flows. This led the UN General Assembly to call for ‘a rigorous analysis of the advantages, disadvantages and other implications of proposals for developing new and innovative sources of funding, both public and private, for dedication to social development and poverty eradication programmes’. The UN Department of Economic and Social Affairs in turn requested WIDER to commission the study of Innovative Sources. The results of this project have just been published as New Sources of Development Finance, edited by A. B. Atkinson, who led the project. The findings were presented at the United Nations in November 2004.

The Funding Challenge

The project started from the assumption that, in order to achieve the MDGs, around an additional $50 billion per year needs to be mobilized. This could be achieved by a doubling of Official Development Assistance (ODA). Welcome steps have been made in that direction, but this takes time, and time is of the essence. For this reason alone, it is necessary to consider new sources. The report examines seven such sources, shown in the Box on page 3.

Our focus in investigating these new sources is on the additional flow of resources generated. Our first conclusion is that the two global taxes considered could yield revenue of the magnitude required (tax on carbon use) or at least half of the requirement (Tobin tax at a rate of 2 basis points). The economic case for the former is analysed by Agnar Sandmo and Machiko Nissanke examines the Tobin tax. While the introduction of these global taxes would not be easy, the proposed rates of tax are modest. This reflects the fact that the target $50 billion is a relatively small percentage of the gross national income of rich countries. It is some 0.25% of the total income of the EU and US combined.

Indeed – and this is our second conclusion – the tax rates required for this purpose are an order of magnitude smaller than the tax rates proposed by those advocating these taxes on allocational grounds. The Tobin taxes proposed to ‘put sand in the wheels of international finance’ have been 10 or 20 basis points, or ten times that considered here. The energy tax considered has a rate per metric ton of a tenth or a twentieth of those typically considered in the literature on global warming. The new taxes cannot therefore be expected to have a major behavioural impact, discouraging speculation and reducing CO2 emissions.

The third conclusion is that there are alternatives to global taxation. The International Finance Facility (IFF) proposed by the UK government could, with sufficient support from other donors, yield flows over the crucial period up to 2015 of the magnitude required. The creation of SDRs for development purposes, examined by Ernest Aryeetey, has been envisaged as raising some US$25-30 billion. This means that it could contribute a significant part of the total, but would need to be combined with other measures. One such additional source is the global lottery, which is potentially the source of significant revenues if agreement can be reached with national lotteries. Supporting roles could be played by increased remittances from emigrants, and, on a more modest scale, increased private donations.

Fourthly, in each case, we have to investigate how far the funds raised are incremental. Countries signing up to the global lottery, for example, or for a global tax, may cut back on their ODA. There is a risk that innovative measures crowd-out ODA. This is a serious risk, but it should be noted that among the countries actively canvassing support for new measures are those that have also announced that they will reach the target of increasing ODA to 0.7% of national income.

With all the proposals for new sources, one has to ask – who pays? There are good reasons to expect that new global taxes will be passed on to final users. This applies to energy taxes. People tend to think immediately of the impact of a carbon tax on the fuel and transport costs of households, but energy costs enter also as inputs in other sectors, so that part may appear as higher prices for apparently unrelated products. In the case of the Tobin tax, one has similarly to trace the input-output consequences. The other measures too may have costs. The increase in ODA that is effectively envisaged under the IFF, for example, has to be financed, and the future commitments may affect the budgetary position of donor countries.

What’s New in the Report?

Insofar as the energy tax and the Tobin tax have been much debated, the report covers well-trodden ground (although, as noted above, with a different perspective). A number of the other proposals have been much less fully investigated. In the case of the IFF, Chapter 8 provides, to our knowledge, the first external analysis of this proposal. The author, George Mavrotas, concludes that the scheme could provide the advantage of stable and predictable flows of resources over the period up to 2015, although it evidently raises the question as to what happens beyond that date. Relatively little attention has been paid to private donations for international development, the subject of the chapter by John Micklewright and Anna Wright. As they show, we know little about the determinants of giving to particular causes. Andrés Solimano examines in the same way the role of remittances by emigrants.

We have tried also to bring new thinking to bear. One example is ‘flexible geometry’. If the new sources require government action, then does the success and effectiveness of any particular proposal depend on complete adhesion of all donor countries? It is natural to assume that there is an inherent freerider problem, so that there has to be general, if not universal, agreement. In the present climate, this presumption provides grounds for pessimism about the chances of making progress. On the other hand, suppose that we start from the position that universal agreement may be impossible and examine the implications of going ahead with a subset of countries? The US has so far prevented the creation by the IMF of Special Drawing Rights, and in this case no action seems possible. But it does not follow that other measures are also blocked. Here we can learn from the internal experience of the European Union (EU). The EU has in the past faced situations where one member state chose to ‘opt out’ of collective decisions. In these circumstances, flexibility in the resulting institutions has allowed the majority to respect the opting-out decision but still make progress towards their objectives. There is ‘flexible geometry’. Partial adhesion has costs, but the issue becomes one of balance, rather than an absolute block on action. We have to ask therefore in the case of each proposal whether it is viable to go ahead with a subset of countries? Failure of countries to participate in the IFF means that the scale of the operation is reduced, but the proposal is not undermined. The same applies to the global lottery, indeed insofar as this offers a new product, those countries not participating may lose out. With global taxation, the freeriding problems become potentially more worrying. Significant opting out from a global carbon tax may erode the tax base, as producers relocate to non-participating countries. With a low rate of currency transactions tax, the situation is less clear. It certainly seems realistic to explore how far the euro zone on its own could introduce a Tobin tax at a modest rate. Current fears about the strength of the euro relative to the dollar suggest that now is a good time to ask this question.​

Flexibility may be important in a different sense when it comes to the administration of global taxation. It is typically assumed that a tax on countries according to, say, their energy use has to be translated into domestic taxes on energy. National governments could however retain control over the tax base. In this case, participating governments would agree on their national tax liability but retain freedom to decide how the revenue is to be raised domestically. The national government might judge, for example, that a tax on air journeys was unfair on those living in remote rural areas, and choose a different tax base. This would in effect be applying the principle of subsidiarity adopted by the EU.​​

Our report also contains one completely new proposal. Tony Addison and Abdur Chowdhury have come up with the idea of a global premium bond. Since it is often objected that a global lottery means that people lose their entire stake, they suggest that the payment should be a loan, where only the interest takes the form of a lottery prize, the capital being repayable on request. Premium bondholders never lose their investment but the return depends on their luck. In fact, the premium bond is financially equivalent as a transaction to placing money in a regular savings bank and drawing out the interest each month to buy lottery tickets. But experience suggests that this appeals to a different market, and a global premium bond may also attract those who wish to lend for development purposes.

Finally, in the course of the book, we have applied the insights of public economics to the global plane. In Chapter 10, James Mirrlees considers the lessons from optimal tax design when applied at a global level. In Chapter 11, Robin Boadway examines the lessons from the literature on fiscal federalism, dealing specifically with taxes on nations, taxes on global externalities, and taxes on internationally mobile tax bases.

Professor A. B. Atkinson is Warden of Nuffield College, Oxford. He was previously Professor of Political Economy at the University of Cambridge, and Tooke Professor of Economic Science and Statistics, London School of Economics. He is Fellow of the British Academy, and has been President of the Royal Economic Society, of the Econometric Society, of the European Economic Association and of the International Economic Association. He has served on the Royal Commission on the Distribution of Income and Wealth, the Pension Law Review Committee, and the Commission on Social Justice.