The Fallacy of Foreign Aid; H. Hazlitt

The justification of the latter will depend, in each case, only partly on economic considerations, and mainly on a complex s,et of polit ical and military facto~s. Mr. Hazlitt is the well-known economic and financial analyst, columnist, lecturer, and au thor of numerous books. It ought to be clear, to begin with, that foreign aid retards the economic growth and the capital , development of the country that grants it. If it is fully paid for out of taxes at the time it is granted, it puts an additional tax burden on industry and reduces incentives at the same time as it takes funds that. would otherwise have gone into new domestic investment. If it is not fully paid for, but fi nanced out of budget deficits, it brings all the evils of inflation. It leads to rising prices and costs. It leads to deficits in the balance of payments, to a loss of gold, and to loss of confidence in the sound ness of the currency uni t. In either case foreign aid must put back the donor country's capital development.

All the consequences just de scribed have occurred in the 41 42 THE FREEMAN February United States. In the last twenty years American foreign aid has reached the stupendous total of $115 billion. As the public debt has increased from $259 billion at the end of 1945 to $321 billion now, this means that $62 billion of this foreign aid was in effect paid for by borrowing and by in flating the currency, and $53 bil lion by added taxation. Without the foreign-aid handouts we could have avoided both the inflation and the added taxation. We could have avoided both the cumulative def icit of $27 billion in the balance of payments and the loss of $9 billion gold in the last eight years. Today, American "liberals" are talking about all the billions we ought or will need to spend to extend and improve our roads and highways, to improve and increase our hous ing and to rehabilitate our blighted cities, to combat air pol lution and water pollution, to bring more water to the cities and to turn salt water into fresh. The $115 billion that went into foreign aid would have covered practically all the improvements in this di recti on that most of these "lib erals" are demanding.

The Pump-Priming Argument We sometimes hear it said by American advocates of foreign aid (and we very frequently hear it said by many of the foreign recipients of our aid, and alwa'Ys by the communists) that the U.S. has got great economic advantages out of its foreign aid program. We desperately need "outlets" and "new markets" for our "surplus." We must give part of our goods away, or give foreigners the dol lars with which to buy them, to keep our factories going and to maintain full employment. This program was even necessary, ac cording to the communists, to "postpone" the ."inevitable col lapse" of capitalism. It should not be necessary to point out that this whole argu ment is unmitigated nonsense. If it were true that we could create prosperity and full employment by making goods to give away, then we would not have to give them to foreign countries. We could ac complish the same result by mak ing the goods to dump' into the sea. Or our government could give the money or the goods to our own poor.

It ought to be clear even to the feeblest intelligence that nobody can get rich by giving his goods away or making more goods to give away. What seems to con fuse some otherwise clearheaded people when this proposition is ap plied to a nation rather than an individual is that it is possible for particular firms and persons within the nation to profit by such 1966 THE FALLACY OF FOREIGN AID 43 a transaction at the expense of the rest. The firms, for example, that are engaged in making the exported foreign-aid commodities are paid for them by the aid-re ceiving country or by the U.S. government. But the latter gets the money, in turn, from the American taxpayers. The taxpay ers are poorer by the amount taken. If they had been allowed to keep it, the'y would have used it themselves to buy the goods they wanted. True, these would not have been precisely the same goods as those that were made and exported through the foreign-aid program. But they would have supplied just as much employ ment. And Americans, rather than foreigners, would have got what was made by this employment.

Buying Friends "Yes," it may be· conceded, "all of this may be true; but let us not look at the matter so selfishly, or at least not so nearsightedly. Think of the great blessings that we have brought to the aid.-re ceiving countries, and think of the long-run political and other in tangible gains tothe United States. We have prevented the aid-re ceiving countries from going com munist, and the continuance of our aid is necessary to continue to keep them from going communist. We have made the recipient countries our grateful allie·s and friends, and the continuance of our foreign aid is necessary to continue to keep them our grate ful allies and friends." First, let us look at these al leged intangible gains to the United States. We are here admit tedly in the realm of opinion, in the realm of might-have-beens and might-be's, where proof either way is hardly possible. But there is no convincing evidence that any of our aid-recipients that have not gone communist would have done so if they had not got our economic aid. Communist Party membership in aid-receiving France and Italy did not fall off; in fact it has shown a tendency to increase in both countries with increasing prosperity. And Cuba, the one· country in the Western Hemisphere that has gone com munist, did so in 1959 in spite of having shared freely in our for eign aid in the preceding twelve years. Cuba had been favored by us, in fact, beyond all other coun tries in sugar import quotas and other indirect forms of economic help.

As for gaining grateful allies or even friends, there is no ev idence that our $11 billion of lend lease to Russia in World War II endeared us to the Russian lead ers; that our aid to Poland, Yu goslavia, Indonesia, and Egypt 44 THE FREEMAN February turned Gomulka, Tito, Sukarno, or Nasser into dependable allies; that it has made Gaullist France, or India, Mexico, Chile, Laos, Cambodia, Bolivia, Ghana, Pan ama, Algeria, and scores of other nations that have got our aid, in to our grateful friends. On the other hand, there is good reason to suspect that our aid has often had the opposite effect. Countries have found that when ever they look as if they are in danger of going communist they get more American aid. This veiled threat becomes a recognized way of extorting more aid. And the leaders of governments getting our aid find it necessary to insult and denounce the United States to prove to their own followers that they are "independent" and not the "puppets" of "American imperialism." It is nearly always the U. S. embassies and informa tion offices that periodically get rocks thrown through their win dows, not the embassies of coun tries that have never offered any aid.

Humanitarian Motives "Still," it may be (and is) ob jected, "to mention any of these things is to take a shortsighted and selfish point of view. We should give foreign aid for pure ly humanitarian reasons. This will enable the poor nations to conquer their poverty, which they cannot do without our help. And when they have done so, we will have the reward of the charitable deed itself. Whether the recipi ents are grateful to us· or not, our generosity will redound in the long run to our own self-interest. A world half rich and half poor is an unsafe world; it breeds envy, hatred, and war. A fully prosper ous world is a world of peace and good will. Rich nations are ob viously better customers than poor nations. As the underde veloped nations develop, Ameri can foreign trade and prosperity must also incre'ase." The final part of this argument is beyond dispute. It is to Ameri ca's long-run interest that all other countries should be rich and productive, good customers, and good sources of supply. What is wrong with the argument is the assumption that government-to government aid is the way to bring about this desired consum mation.

The quickest and surest way to production, prosperity, and eco nomic growth is through private enterprise. The best way for gov ernments to encourage private en terprise is to establish justice, to enforce contracts, to insure do mestic peace and tranquillity, to protect pri vate property, and to secure the blessings of liberty, in1966 THE FALLACY OF FOREIGN AID 45 eluding economic liberty - which means to stop putting obstacles in the way of private enterprise. If every man is free to earn and to keep the fruits of his labor, his incentives to work and to save, to invent and invest, to launch new ventures, to try to build a better mousetrap than his neigh bor, will be maximized. The effort of each will bring the prosperity of all. Under such a system more and more citizens will acquire the cap ital to lend and invest, and will have the maximum inducement to lend and invest at home.

Very quickly more and more foreigners will also notice the in vestment opportunities in (let us call it) Libertania, and their money will come in to speed its development. They will place their funds where they promise to earn the highest returns consonant with safety. This means that the funds will go, if the investments are wisely chosen, where they are most prod ucti vee They will go where they will produce the goods and services most wanted by pro ductive Libertanians or by for eigners. In the latter case they will produce the maximum ex ports, or "foreign exchange," either to payoff the investment or to pay for. the import of the foreign goods most needed. The surest way for a poor nation to stay poor, on the other hand, is to harass, hobble, and straitjacket private enterprise or to discourage or destroy it by subsidized government competi tion, oppressive taxation, or out right expropriation.

Socialism versus Capitalism Now government-to-government aid rests on socialistic assump tions and promotes socialism and stagnation, whereas private for eign investment rests on capital istic assumptions and promotes private enterprise and maximum economic growth. The egalitarian and socialistic assumptions underlying govern ment-to-government aid are clear. Its main assumption is that the quickest way to "social" justice and progress is to take from the rich and give to the poor, to seize from Peter and give to Paul. The donor government seizes the aid money from its supposedly over rich taxpayers; it gives it to the receiving nation on the assump tion that the latter "needs" the money - not on the assumption that it will make the most pro ductive use of the money. From the very beginning gov ernment-to-government aid has been on the horns of this dilemma. If on the one hand it is made without conditions, the funds are squandered and dissipated and 46 THE FREEMAN February fail to accomplish their purpose.

But if the donor government at tempts to impose conditions, its attempt is immediately resented. It is called "interfering in the in ternal affairs" of the recipient na tion, which demands "aid without strings." In the twenty expensive years that the foreign aid program has been in effect, American officials have swung uncertainly from one horn of this dilemma to the other - imposing conditions, dropping them when criticized, silently watching the aid funds being grossly misused, then trying to impose conditions again. But now American officials seem on the verge of following the worst pos sible policy - that of imposing conditions, but exactly the wrong conditions. President Johnson has an nounced that our future foreign aid will go to those countries "will ing not only to talk about basic social change but who will act im mediately on these reforms." But what our aid officials appear to have in mind by "basic social change" is to ask of the countries that receive our grants, not that they give guarantees of the secur ity of property, the integrity of their currencies, abstention from crippling government controls, and encouragement to free markets and free enterprise, but that they move in the direction of govern ment planning, the paternalistic state, the redistribution of land, and other share-the-wealth schemes.

Land Reform Measures The so-called "land reform" that our government officials are de manding has meant and still means destroying existing large-scale agricultural enterprises, dividing land into plots too small for ef ficient or economic cultivation, turning them·over to untried man agers, undermining the principle of pri vate property, and opening a Pandora's box of still more radi cal demands. Socialism and welfare programs lead to huge chronic government deficits and runaway inflation. This is what has happened in Latin America. In the last ten years the currency of the Argen tine has lost 92 per cent of its pur chasing power; the currency of Chile has lost 94 per cent; of Bo livia 95 per cent; of Brazil 96 per cent. The practical consequence of this is the expropriation of wealth on a tremendous scale. Yet, a United States Senator, recently demanding "land reform" and ignoring this history, made it a charge against the rich in these aid-receiving nations that they do not "invest in their own economies" but place their funds 1966 THE FALLACY OF FOREIGN AID 47 abroad. What he failed to ask himself is why the nationals of some of these countries have been sending their funds abroad or put ting them in numbered accounts in Switzerland. In most cases, he would have found that it was not only because no attractive private invegtment opportunitieg were open to them at home (because of burdensome controls, oppressive taxes, or government competition) , but because they feared the wip ing out of their savings by rapid depreciation of their home curren cies, or even the outright confisca tion of their visible wealth.

The Benefits? In the last twenty years foreign aid has made American taxpayers $115 billion poorer, but it has not made the recipients .anything like that much richer. How much good has it actually done them? The question is difficult to answer in quantitative terms, because for eign aid has often been a rela tively minor factor out of the scores of factors affecting their economies. But the advocates of foreign aid have had no trouble in giving glib and confident answers to the question. Where, as in Western Europe and Japan, our aid has been followed by dramatic recov ery, the recovery has been attrib uted wholly to the aid (though just as dramatic recoveries oc curred in war-torn nations after World War I when there was no aid program). But where our aid has not been followed by recovery, or where recipient nations find themselves in even deeper eco nomic crises than they were before our aid began, the aid advocates have simply said that obviously our aid was not "adequate." This argument is being used very widely today to urge us to plunge' into an even more colossal aid pro gram.

A careful country-by-country study, however, shows pretty clearly that wherever a country in recent years (such as West Ger many) has reformed its currency, kept it sound, and adhered in the main to the principles of free en terprise, it has enj oyed a mirac ulous recovery and growth. But where a country (such as India) has chosen government planning, has adopted grandiose socialistic "five-year plans" arbitrarily di recting production into the wrong lines, has expanded its currency but kept it overvalued through ex change controls, and has put all sorts of restrictions and harass ments in the way of private en terprise and private initiative, it has sunk into chronic crises or famine in spite of billions of dol lars in generous foreign aid. As Charles B. Shuman, pres i48 THE FREEMAN Februa'ry dent of the American Farm Bureau Federation, recently put it, the one common denominator in virtually all the hungry nations has been "their devotion to a so cialist political-economic system - a government-managed econo my. The world does not need to starve if the underdeveloped areas can be induced td accept a mar ket price system, the incentive method of capital formation competitive capitalism."

Our conclusion is that govern ment-to-government foreign aid, as it exists at present, is a deter rent, not a spur, to world econom ic prosperity, and even to the eco nomic progress of the underdevel oped recipients themselves. Wasteful Projects This is true partly because of the very nature of foreign aid. By providing easy outside help without cost, it often fails to en courage self-help and responsibil ity. Moreover, government-to-gov ernment economic help almost in evitably goes to governntent proj ects, which frequently mean so cialized projects, such as gran diose government steel mills or power dams. It is true that there are many economic services, such as streets and roads, water supply, harbors, and sanitary measures, that are usually undertaken by governments even in the most "capital istic" countries, yet which form an essential basis and part of the process and structure of all pro duction. Foreign as well as do mestic funds may legitimately go to governments for such purposes.

Yet intergovernmental aid is like ly to channel a disproportionate amount of funds even into such projects. If governments had to depend more on domestic or for eign private investors for these funds, less extravagant projects of this nature would be embarked upon. Private investors, for exam ple,might lend more freely for toll roads and bridges, and similar projects that promised to be self liquidating, than for those that yielded no monetary return. As a result, the recipient government's planners would make more effort to put their roads and bridges where the prospective use and traffic would prove heavy enough to justify the outlay. In addition to the conditions in the very nature of government to-government aid that make it on net balance a deterrent rather than a spur to private enterprise and higher production, there is the recent disturbing trend in the attitude of American aid officials, who have begun to insist that un derdeveloped nations cannot get more aid unless they adopt "land reform," planning, and other so1966 THE FALLACY OF FOREIGN AID 49 cialistic measures-the very meas ures that tend to retard eco nomic recovery.

Conditions for Private Investment If our aid program were now tapered off, and the underdevel oped nations had to seek foreign private capital for their more rap id development, the case would be far different. Foreign private in vestors would want to see quite different reforms. They would want assurance (perhaps in some cases even gua.rantees) •against nationalization or expropriation, against gove,rnment-owned com petition, against discriminatory la ws, against price controls, against burdensome social secur ity legislation, against import license difficulties on essential ma terials, against currency exchange restrictions, against oppressive taxes, and against a constantly de preciating currency. They would probably also want guarantees that they could always repatriate their capital and profits. Foreign private investors would not demand the active cooperation or an enthusiastic welcome by the government of the host country, but this would certainly influence their decision considerably. In fact, foreign private investors, un less the would-be borrowers came to them, would not demand any conditions at all. They would place their funds where the deter rents and discouragements were fewest and the opportunities most inviting.

What the anticapitalistic men tality seems incapable of under standing is that the very steps necessary to create the most at tractive climate for foreign invest ment would also create' the most attractive climate for domestic in vestment. The nationals of an un derdeveloped country, instead of sending their money abroad for better returns or sheer safekeep ing, would start investing it in enterprises at home. And this do mestic investment, and reinvest ment would begin to make foreign investment le,ss and less urgent. It is unlikely that reforms in the direction of free enterprise will be made by most socialistic and control-minded countries as long as they can get intergove·rn mental aid without making these reforms. So a tapering off or phas ing out of the American aid pro gram will probably be necessary before a private foreign invest ment program is launched in suf ficient volume.

A More Hopeful Alternative I should like to renew he·re a suggestion for an interim program that I put forward a few years ago.! This is that, from now on INational Review, May 6, 1961.

50 THE FREEMAN February out, economic foreign aid would be continued solely in the form of loans rather than grants. These would be hard loans, repayable in dollars. They would bear interest at the same rate that our own gov ernment was obliged to pay for loans of equal maturity - as of to day, say about 41j2 per cent. They would be repayable over not more than twenty-five to thirty years, like a mortgage. Like a mortgage, they would preferably be repay able, principal and interest, in equal monthly or quarterly install ments, beginning immediately after the loan was made. Such loans would not be urged on any country. The would-be bor rowers would have to apply for them. They would be entitled to borrow annually, say, any amount up to the amount they had previ ously been receiving from us in grants or combined loans and grants. All these requirements would be written into law by Congre,ss.

Congress would also write into law the conditions for eligibility for such loans. Among such conditions might be the following: The bor rowing government would have to refrain from any additional so cialization or nationalization of industry, or any further expropri ation or seizure of capital, domes tic or foreign. It would undertake to balance its budget, beginning, say, in the first full fiscal year after receiving the loan. It would undertake to halt inflation. The borrowing government, for ex ample, might agree not to increase the quantity of money by more than 5 per cent in anyone year, and not to force its central bank to buy or discount any increased amount of the government's own securities. The borrowing govern ment might be required to dis mantle any exchange controls. In brief, the borrowing country and government would be obliged to move toward the conditions that would be necessary to attract pri vate domestic or foreign capital.

Anticipated Consequences My guess is that the mere re quirement for repayment of prin cipal and interest, to begin im mediately, would in itself p,rob ably reduce applications for aid to about a third of the amounts we now payout. The other conditions of eligibility would probably cut the applications to a sixth or a tenth of these amounts. For the borrowing governments would have to think twice about the' ad visability of projects for which they would have to start paying themselves. Projects would tend to be reduced to those that were self-liquidating, i.e., demonstrably economic. The borrowing nations could 1966 THE FALLACY OF FOREIGN AID 51 not complain that we were trying to interfere in or to dictate their domestic economic policies. . These would merely be the conditions of eligibility for loans. The .borrow ing nations would be. neither forced nor urged to borrow from us. The American administrators of the foreign loan program would not be authorized either to dictate or remove any conditions or to discriminate among borrow ers. In any case, their discretion should be very narrowly circum scribed.

The benefits of such a program would be many and obvious. It would immediately cut down dras tically the outflow of American funds in foreign aid. Most of the aid that we granted through such loans would be rep,aid with in terest. We would not be courting foreign favor. The would-be bor rowers would have to come· to us, openly. We would cease;, as now, to subsidize and expand foreign socialism. I should make it clear that I am not proposing such a program for its own sake, but as a purely transitional measure to phase out our existing foreign-aid program with the least possible disturbance, disruption, or recrimination. This scaled-down lending program might run for, say, a maximum of three years. At the end of that time it could easily be terminated. For meanwhile the borrowing gov ernments, and particularly private enterprises in their respective countries, would have created an attractive climate, and would have become attractive media, for both domestic and foreign private investment.

In such a revitalized capitalistic' climate the improvement in world economic conditions might even be come spectacular. ~ First Principles EVERY MAN should expend his chief thought and attention on the consideration of his first principles: are they or are they not rightly laid down? and when he has sifted them, all the rest will follow. PLATO. Cratylu8 HAD NAPOLEON been asked to sit atop the Cosmos and manage everything in interstellar space, probably he would have demurred on the grounds that such an as signment was beyond his com petence. Yet, he unhesitantly strove for a role no less preten tious: managing millions of human beings, each of whom is as phe nomenal as the Cosmos itself. A *Macro: meaning large; comprising the universe; as distinguished from the individual components. Macro economics, for instance, refers. to the economy as a whole without relation to the individ ual components. The term recently has come into popular use for what might otherwise be called the economics of collectivism, the centrally planned econ omy, the welfare state, with emphasis on national income, social progress, full employment, and the like, instead of private property, freedom of choice, self responsibility, and other aspects of in dividualistic "micro economics."