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Global Slowdown: The LCDs' Sword of Damocles

Article no: EN20080717-Article-4.4-2008

Global Slowdown: The LCDs' Sword of Damocles

The world´s 50 poorest nations saw the values of their exports climb by a collective 80% from 2004-2006 and recorded their highest rates of economic growth in 30 years, even surpassing the 7% target set by their governments and their development partners. But their increased dependence on selling a few unsophisticated products ? primarily petroleum, low-technology manufactures, minerals, ores, metals, and farm goods ? leaves them vulnerable to a reversal, this year?s LDC report of UNCTAD warns. By Carla September

The Least Developed Countries Report 2008 (see reference) cautions that a global economic slowdown, if it continues, may lessen demand for the primary commodities the so-called LDCs have to offer and lead to a repeat of the boom-and-bust cycles that have long tormented LDC economies. These countries have a strong need to diversify what they produce and sell on world markets, the report urges. They must increase manufacturing, improve their use of science and technology, find greater sources of domestic investment (rather than depending heavily on official foreign aid), and create jobs for increasingly urbanized populations who can´t depend for survival on farming.

* Without diversification and structural change?

The vulnerability of the world´s poorest countries is apparent in social unrest related to the food crisis that has already occurred in eight LDCs, the report warns. It notes that a number of LDCs are dependent on imported food. Strong growth during the worldwide export boom beginning shortly after the turn of the Millennium did not lead to a diversification or structural changes in LDC economies, the study says. In fact, from 2004-2006, the portion of primary commodities in LDC exports rose from 59% to 77%. LDCs´ share of world manufacturing exports stagnated at a meagre 0.2% of the global total. Current patterns of export specialization may increase LDCs´ economic vulnerability and diminish their resilience to external shocks.

How LDCs integrate into the global economy matters, the report argues.
Aggregate LDC performance also masks major differences among countries, along with several significant trends:

* During 2005-2006, the real gross domestic product (GDP) growth rate of 11 LDCs was below 3% ; 20 LDCs grew at a rate between 3-6% annually; and 19 LDCs exceeded 6%;
* Export growth has been particularly strong in oil and mineral exporting LDCs; they account for 75% of LDC exports overall;
* Regional differences in exports have widened between African, Asian and island LDCs; there are now strikingly different patterns of exports and growth;
* LDCS show increasing dependence on external sources of finance, especially official development assistance (ODA), rather than domestic resources (see below);
* Increased foreign direct investment (FDI) inflows are now associated with rapidly increasing profit remittances; expectations that private capital inflows and FDI will replace public sources of finance remain largely unfulfilled; and
* High growth is not occurring though a process of diversification and structural change in most LDCs; the result is that they are increasingly vulnerable to future trade shocks.

* ? marginalization will deepen

Without the development of productive capacities and associated employment, climbing LDC exports and increased foreign investment do not lead to inclusive development nor do they provide the basis for economic transformation, the report says. Unless LDCs and their development partners renew efforts to broaden the domestic productive bases of LDCs and address their poverty-related structural weaknesses, their marginalization is likely to deepen. LDCs can export their way out of poverty only if they export the right kinds of products, the report argues.

Despite their recent record export performance, LDCs remain marginalized in the global economy ? in 2006, the overall value of their output and export share remained below 1% of the global value of output (0.5%) and as a share of world merchandise exports (0.8%). Persistent trade deficits and unrelenting balance-of-payments difficulties remain the norm. The merchandise trade deficit of oil-importing LDCs increased from US$25bn in 2005 to $31bn in 2006. The majority of LDCs (42 out of 50) experienced trade deficits in 2005-2006, up from 37 of 50 for the period 2003-2004.

The enhanced export performance of oil-exporting LDCs (Angola, Equatorial Guinea, Chad, Sudan, Timor-Leste, and Yemen) and mineral exporters (Zambia, the Democratic Republic of the Congo, Mozambique, Guinea, Mali, and Mauritania) accounted for 76% of the total increase in LDCs´ merchandise exports for 2004-2006.

Despite strong growth: Failure to reach broad populations

The highest rate of economic progress in the world´s 50 least developed countries (LDCs) in the last 30 years has not been enough to prevent their total number of poor from increasing, the new UNCTAD LDC report reveals. Three fourths of those living in these nations continue to survive on less than US$2 a day. Overall economic growth rates of 7% and more in the LDCs in 2005-2006 should have provided an opportunity for substantial improvements in living conditions - but rapid population increases and other factors mean some 581 million people continue to live in material deprivation out of a total LDC population of 767 million in 2005. Income of under US$2 per day does not allow most to meet basic needs for food, water, shelter, health, or education.

Slow progress in reducing poverty means the LDCs will not be able to achieve the first of the United Nations´ Millennium Development Goals (MDGs): halving the proportion of those living on less than $1 a day between 1990 and 2015. To achieve the poverty goal of MDG 1, the LDCs would need to cut their absolute poverty rate to 20% by 2015. UNCTAD projections show that if current trends continue, LDCs will only achieve 33% by that date. The global food crisis is projected to worsen the situation (see below).

The incidence of poverty and the rates at which it has been falling are quite different between African and Asian LDCs. As much as 80% of the populations of African LDCs live on less than $2 a day, while the proportion is 69% in Asian LDCs. This amounts to 375 million poor in African LDCs and 204 million in the Asian LDCs, with a further 2 million living in island LDCs. Asian LDCs have been more successful in reducing poverty because they have been able to create jobs at a much faster pace, the report says. Progress in other aspects of human well-being is also slow. Economic growth has been accompanied by sluggish progress towards achieving other so-called human development goals related to nutrition, health, education, gender equality, and environmental sustainability. Most LDCs will probably be unable to meet most of the MDGs by 2015.

LDCs have achieved most progress in areas where they have sharply increased social spending by national governments with the backing of donor countries and/or international non-governmental organizations (NGOs), all acting through well-targeted programmes, the report says. Progress has been strongest in increasing the level of primary education, followed by widening access to safe water and improved sanitation. However, even in the case of primary education, 43% of LDCs are unlikely to meet their MDG target by 2015.

The main reasons strong economic growth fails to translate into hefty improvements in well-being are the types of growth and the models of development that LDCs have been following, the report says. These approaches mean only limited segments of the population benefit from economic expansion. Job creation has been limited which deprives most people of direct increases in their earnings. Another factor making social progress difficult is strong population growth.

Most LDCs remain agricultural economies with limited capacity to mobilize domestic resources or provide people with adequate means for survival; more and more people are seeking work outside of agriculture, but employment opportunities are not being generated fast enough to meet the growing demand, the report notes. The food crisis in many LDCs is in part a result of this lopsided development pattern.

* The big policy illusion of the past

Overall investment patterns in LDCs remain inadequate to meet either the targets set at the Third United Nations Conference on the Least Developed Countries held in Brussels in 2001 or the United Nations Millennium Development Goals, the report says, although some improvement in investment levels has been registered, especially in oil-exporting LDCs. The big policy illusion of the past decades was that investment in productive sectors would be taken care of by the international private sector through increased access to international capital markets or FDI inflows. But these inflows have concentrated on a few LDCs and have been weakly linked with the rest of their economies, the report says. Most FDI remains concentrated on natural resource extraction, particularly of oil and minerals.

To build economic resilience, the LDC economies need to improve agricultural productivity and diversify their economies to create non-agricultural employment opportunities. As argued in earlier Least Developed Countries Reports, this requires a new development model focused on building productive capacities and on shifting from commodity-price-led growth to "catch-up" growth.

LDC debt problems also continue, the report notes, especially for the 34 LDCs that have not been granted debt relief under the Enhanced Highly Indebted Poor Countries Initiative (HIPC) or the Multilateral Debt Relief Initiative (MDRI) of 2006. The 16 LDCs that received irrevocable debt relief under these initiatives, by contrast, performed well. Eight out of the 16 LDCs granted debt relief attained growth levels of over 6 % for 2005-2006 (Ethiopia, Malawi, Mauritania, Mozambique, Niger, Sierra Leone, Uganda, and Zambia), and the other eight achieved growth rates of 3-6 %.

The global economic slowdown implies a further decline in demand that is likely to exert adverse impact on growth prospects in LDCs, largely underpinned by increasing prices for oil, minerals, and primary commodities in Africa and increased demand for low-skilled, labour-intensive manufactures in Asian LDCs, the report says. In the face of this global slowdown, most LDCs will confront major challenges in the period ahead. Meeting these challenges will require renewed efforts by the LDCs and their development partners to improve the productive bases of LDC economies and address their structural weaknesses.

* Aid dependency and conditionality

LDCs continue to rely heavily on external sources of growth, especially official development assistance (ODA). Among LDCs in 2006, the average share of ODA disbursements as a share of GDP was about 8%; with island LDCs registering the highest aid dependence (17%), followed by African LDCs (9.3%). The lowest aid dependence was shown by Asian LDCs (4.8%), and if Afghanistan is excluded, the Asian rate was only 2.7%.

The LDCs should have greater control and flexibility over how the foreign aid they receive is used so that is has the greatest positive impact. The report says rules and conditions attached to this incoming money should not be so stringent ? or so tied to meeting economic targets ? that governments are hindered from tailoring development plans that meet local and national conditions. Greater "ownership" will not only channel aid where it is most effective, the report contends. It will also help LDC governments improve their governance capacities ? their abilities to plan, analyze, and carry out development projects in ways that stimulate economic growth.

The notion of ownership is at the heart of the partnership approach to development cooperation elaborated internationally since 2000. The principle has received strong political support at the highest level, such as from the G8 Summit at Gleneagles, Scotland, in 2005. The report recognizes that "second generation" Poverty Reduction Strategy Papers (PRSPs) have become the main instrument by which aid donors and recipient governments fashion development plans. Thirty-nine LDCs thus far have prepared PRSPs and have presented them to the boards of the World Bank and the International Monetary Fund (IMF).

Since 2000, aid partnerships have placed increased emphasis on the principle of national country ownership, and the approach is one of the main components of the Paris Declaration on Aid Effectiveness (2005) whose implementation will be assessed at a meeting in Accra, Ghana, in September 2008. But there is still a big gap between rhetoric and practice, the report contends. The current aid system is not as effective as it could be because ongoing aid delivery mechanisms continue to undermine effective country ownership. Problems include poor alignment between donors and recipients, lack of information, lack of transparency, donor-led, top-down, parallel systems of aid delivery, lack of coordination and harmonization between aid and government plans and budgets and processes, lack of aid predictability, and wide annual fluctuations in the amounts of aid delivered.

Both the World Bank and IMF have made major efforts to reduce the negative effects of conditionalities for the use of aid, but the job is far from done, the report says. For example, ODA inflows to Malawi, Zambia, and Sierra Leone were cut in 2003 and in 2007 because of those countries´ failures to meet macroeconomic targets. Macroeconomic stabilization, privatization, and liberalization of the banking and financial sectors remain key conditions applied to aid, complemented with more rules on governance affecting LDCs than ever before. These requirements limit what governments can do and have adverse consequences, the report says. A system is needed that allows government ownership while ensuring donors that aid is used properly and effectively. The report also suggests that the development model underpinning IMF-style conditionalities on aid has not led to sustainable or inclusive growth in most LDCs.

* Reclaiming development through aid management policies

UNCTAD recommends Aid Management Policy (AMP) ? a practical new instrument that stresses mutual accountability of donors and recipient governments and aims at reducing transaction costs. Aid Management Policy also provides a framework for strengthening state capacities for effective use of foreign aid. LDCs need to take a bottom-up approach with their aid programmes, focusing on home-grown solutions through maximum use of local knowledge, the report says. This will require strengthening their management and technical skills ? a process already under way in a number of LDCs ? so that solutions can be tailored to meet local challenges.

LDCs also have to improve their capacities for exploration of theoretical and policy alternatives and think more independently about how to advance development, the report says. There should be space for trial and error in designing and trying policies, and space for governments to adjust their methods to meet local realities over time. The intent is for governments to turn themselves into effective states capable of spurring and managing economic growth through active, home-grown development governance.

* UNCTAD, The Least Developed Countries Report 2008: Growth, poverty and the terms of the development partnership, 197 pp, United Nations: New York-Geneva 2008. Available at:

Posted: 17 July 2008

Recommended citation: Carla September (2008), ?Global Slowdown: The LDC's Sword of Damocles?, World Economy & Development In Brief, Issue 4/Jul-Aug, Luxembourg (