How to fund pro-poor economic strategies

Inclusive Economy15 May 2013Alfredo Saad Filho

Pro-poor strategies that are inclusive should be funded primarily by domestic sources, because foreign savings and investment tend to be volatile and difficult to target. However, this can be a problem for the very poor countries.

‘Inclusive’ and ‘pro-poor’ economic policy have become fashionable and, consequently, vacuous labels: when the IMF and the World Bank claim to support policies initially promoted by heterodox economists and the left, you know that they have already been emptied of meaning.

These powerful ideas ought to be rescued, in order to counter the argument that neoliberal policies are, invariably, the only game in town. In what follows, I outline the case for pro-poor macroeconomic policies in order to support the transition away from neoliberalism. I will not use the term ‘inclusive policies’ because it is too vague. In contrast, ‘pro-poor’ does suggest a tangible goal.

A pro-poor economic strategy is based on three principles. First, mass poverty – both absolute and relative – is the most important social, economic and political problem today, and its elimination should be the priority of any government. Second, this requires structural economic reforms, in order to eradicate the inequalities responsible for the reproduction of poverty. Third, a pro-poor growth strategy must benefit the poor more than the rich; in other words, it should improve the living standards of the poor while, at the same time, reducing inequalities in the distribution of income and wealth.

It follows that, in the pro-poor framework, economic policies are not selected in order to maximise growth and, reciprocally, that equity is not an instrument to support growth. The case for pro-poor strategies is based on their potential to eliminate poverty and material deprivation faster than any alternative, on the intrinsic value of equity, and on their potential contribution to support the expansion of democracy and respect for human rights.

These strategies can be pursued through a wide range of policies; for example, transfers of assets and income, fiscal, monetary and exchange rate policies, capital controls, universal education and training, and changes in the process of income generation, including the deployment of industrial policy to support strategic activities, aggressive employment generation programmes, and incentives for wage increases for low-skilled workers.

In middle-income countries, these priorities should be funded primarily by domestic sources, because foreign savings and investment tend to be volatile, difficult to target, and they are often inimical to pro-poor objectives. Raising the necessary resources domestically will require considerable effort, since the available savings may be insufficient. Consequently, tax revenues may need to rise through a more progressive tax system, the taxation of unearned incomes and financial transactions, and of part of the gains from growth. In contrast, in very poor countries the savings potentially available domestically may be insufficient, which may require additional foreign aid, other unrequited transfers (such as workers’ remittances), and large-scale debt forgiveness.

Pro-poor strategies will also require more expansionary fiscal policies than those permitted by the neoliberal policy consensus. Importantly, they also require the regulation of international capital flows because, first, liberalisation can foster the accumulation of foreign debt, promote speculative inflows, facilitate capital flight, and increase the country’s vulnerability to balance of payments crises. Second, pro-poor strategies require monetary policy autonomy, which is curtailed by financial liberalisation. Third, pro-poor strategies require the state to direct resources to growth-promoting and poverty-reducing objectives, which may conflict with the short-term interests of the financial sector. Fourth, capital controls can help to curb tax evasion.

In sum, pro-poor development requires close coordination between the private and the public sectors, growth-promoting industrial and financial policies, and the democratic regulation of intersectoral, intertemporal and international resource flows. In this framework, the private sector is expected to generate and mobilise the majority of savings, implement most investment projects, develop new technologies, raise economic efficiency, improve export competitivity, and enhance job quality in line with the social priorities identified in the country’s pro-poor development strategy. In parallel, the public sector is expected to induce, regulate and sustain the process of growth, to target resources into priority sectors, and to preserve macroeconomic stability.

The key role of the state in this strategy is not justified because states are either necessarily efficient or inherently ‘good’. State-led coordination of economic activity is necessary because the state is a fundamental tool for collective action. The state is the only social institution that is at least potentially democratically accountable and that can influence the pattern of employment, the production and distribution of goods and services and the distribution of income and assets in society as a whole.