Stability, Security and Development

1. Stability, Security and Development GP3200 August 20, 2013 Economic Development Dr Robert E. Looney relooney@nps.edu

2. Today • Contrasting Economic Development in Conflict and Non-Conflict Settings • Six Rules to Guide Effective Reconstruction • New Directions in Reconstruction • Expeditionary Economics • Afghanistan • Iraq • Reconstruction Zones • Haiti • Afghanistan • Rand Case Study -- Sierra Leone

3. Economic Overview I • Main issue in the economic area is what is needed for successful stabilization and reconstruction • What are some of the practical problems encountered in implementing economic strategies in post-conflict settings? • What are the differences between post-conflict and other development settings? • These differences have major implications for economic objectives, goals, and metrics • What to an economist would normally be “optimal” in traditional development settings often becomes counterproductive in post-conflict settings • Many mistakes made before this reality was understood • One way to conceptualize the economy is to depict the pillars on which a healthy economy depends.

4. Factors Contributing to Economic Health

5. Economic Overview II • Factor tree could apply either to post-conflict or normal developing settings, but with differences • relating to the relative intensity of effort on different factors, • the sequencing of those efforts • the type of aid employed and • the type of market system used • For a given country in a given situation, some of the branches will be much more problematic than others • Conceptually it is useful to think of the economic aspect of post conflict reconstruction or “economics of peace” as an intermediate phase between the “economics of war” and “normal development”

6. Economic Overview III • Economics of peace is a necessary intermediate phase in between the economics of war in which • dilapidated infrastructure and services exist, • illegal economic activities thrive, and • large macroeconomic disequilibria predominate • During this intermediate phase, the reactivation of production has to take place • It is constrained by the need to consolidate the peace process • This process has proved particularly difficult in the post-cold war context of internal conflicts and low levels of development

7. Economic Overview IV • In just about any situation the economics of peace entails a number of necessary tasks: • Getting rid of the underground economy that thrives during wars • Finding economic activities for former combatants so as to integrate them into the productive economy • Dealing with spoilers who will be reluctant to give up profitable illegal activities • Rehabilitating infrastructure and services damaged during the war • Demining fields and roads so that productive activities can start • All these peace related activities that are fundamentally different from stable development settings take place simultaneously with programs to address humanitarian and development needs

8. Economic Overview V • Given the important economic and financial implications of peace-related programs, priorities need to be established early. • The reactivation of licit investment and sustainable and equitable growth requires: • The establishment of an adequate legal and regulatory framework • A functioning financial sector and • A functioning public sector • These aspects together with policies to alleviate poverty and support human development are necessary to: • to create an adequate business climate • Enable new and dynamic firms to thrive • Process particularly challenging in midst of political, social and institutional uncertainties that are legacy of the conflict.

9. Economic Overview V • Some general guidelines in applying the economics of peace: • The peace or political objectives should prevail over the economic or development ones at all times • It is critical to address the root causes of conflict and ensure country does not revert to war • Unless countries engage productively in the economics of peace to reactivate the economy and engage in national reconciliation, long-term development will not have a chance. • Failing to establish the economics of peace in countries such as Iraq and Afghanistan after several years of transition resulted in security rapidly deteriorating particularly in some areas of the country

10. Economic Overview VI • As the U.S. military carried out counterinsurgency operations in Iraq and Afghanistan it became clear to them that • “military operations alone will not achieve stabilization objectives.” • Thus in areas where U.S. military is already present and environment to dangerous for civilian agencies • “the military should assume the prominent role in stabilizing the economy until the security environment improves enough to transition responsibility to civilian aid and development experts.”

11. Rules for Effective Economic Reconstruction I • Each country will end up with a different strategy for economic reconstruction at the national and local level depending on • Factors that are particular to their economies • On the level of international support the country can manage to attract and • On the specific time frame • Despite the specific nature of each case, both good and bad lessons from the experiences of last two decades have enabled the identification of a number of rules or guidelines as key to effective reconstruction • Ignoring these rules has often led to misguided policies and misplaced priorities which have been directly associated with setbacks and even to the collapse of the peace process in many countries.

12. Rules for Effective Economic Reconstruction II • Rule 1: Economic reconstruction not development as usual • During the multi-pronged transition, the over-riding goal in economics is to create stability -- avoid a return to conflict. • Critical activities in this regard include: • delivery of emergency aid for former conflict zones; • the disarmament, demobilization, and reintegration (DDR) of former combatants; • the return of refugees and internally displaced groups; • the reform of the of the armed forces and creation of a national civilian police • may also include rebuilding of houses and other economic assets destroyed in the conflict and the clearance of mines • Because these peace related activities have important financial consequences an should be given priority in budget allocations, the peace (political) and development (economic) objectives often clash. • In this regard the peace should prevail at all times – must avoid reverting to war at all costs

13. Rules for Effective Economic Reconstruction III • Rule 2: Policymaking following crisis is distinctly different from normal development and it should be tailored to such differences • Policymaking in post-conflict settings fundamentally different than under normal development in four ways: • Differences in time horizons over which economic policies can be planned (short-term vs. medium- and long term) • The amount of aid (sharp spikes vs. low and stable flows) • The treatment of different groups (preferences vs equal treatment for all) and • The involvement of the international community in national affairs (intense and intrusive vs. non interference in national affairs)

14. Economic Issues in Post-Conflict Settings II • Economists seeking to advise in post-conflict circumstances must adjust their thinking substantially: the usual paradigms of “good economics don’t necessarily apply • These differences are at the heart of bitter disagreements between some development economists and the World Bank and International Monetary Fund (IMF). • The IMF’s central policies include the desire to establish sustainable fiscal and monetary conditions and external balances which often leads to the adoption of austerity measures. • Makes sense for the long term but can be the wrong prescription if the economy has completely collapsed as in a post-conflict situation • In the long term such austerity measures as not printing money, cuts in public spending, high interest rates, and credit constraints are necessary to keep down inflation and decrease debt • But in the short term interveners in post-conflict settings must do the opposite so that people can start getting paid and money can start flowing through the system.

15. Economic Planning in Normal vs. Post-Conflict Settings

16. Rules for Effective Economic Reconstruction IV Because the overriding objective of post-crisis situations is to avoid reverting to war or aggravating social conflicts • The second rule is that economic policy making should be geared towards • 2a: Adopting emergency policies without delay • Under normal development, economic policies and programs aimed at addressing economic stagnation, backwardness, weak institutions poor human resources, poverty etc. are planned with a medium and long-term time horizon in mind • No such luxury exists following crisis • Need to respond immediately to homeless populations, hunger and diseases as well as all other immediate needs created by the crisis • These policies often distort and have other unintended consequences on medium and long-term development

17. Rules for Effective Economic Reconstruction V • Delays in approving disbursement of funds in the immediate transition to peace and misguided priorities • – reflecting the development as usual approach of multilateral and bilateral development organizations • – have often impeded effective reconstruction. • 2b: Giving priority to crisis affected groups. • Instead of treating equally all groups with the same needs should favor reconstruction (or political) principle which justifies giving special treatment to groups most affected by the crisis – even in the presence of others with similar needs. • For peace to be long lasting reconstruction policies hold be targeted toward decreasing grievances of those groups most affected by conflict • Much of the assistance here has been temporary jobs with NGOs etc.

18. Rules for Effective Economic Reconstruction V • International community has generally failed in supporting post-conflict countries in creating sustainable jobs in the private sector through promotion of local entrepreneurship and new start-ups • Active policies to promote such opportunities though credit, training and technical support are imperative • The provision of subsidies directly to firms for the hiring o crisis-affected groups has yet to be tried but could be promising • 2c: Maximizing the impact of aid and avoiding corruption • Foreign aid exhibits sharp spikes right after crisis as the media attention focuses on the plight of victims – can reach 50 to 100 percent of gross national income (GNI) • By contrast, aid during normal development fluctuates much less and remains at much lower levels (of between 3 and 5 percent of GNI)

19. Rules for Effective Economic Reconstruction VI • Many problems associated with aid: • Large and short-lived spikes, • the improvised way in which funds are channeled, • the country’s low absorptive capacity, and • weak institutions of the countries • All put special pressure on both governments and donors to utilize aid more effectively and to avoid corruption at the time of the transition to peace • 2d: Reining in the international community and ensuring national policy ownership • Because of large volume of aid, and foreign troops in crisis affected countries – inevitable that political involvement of international community in affairs of these countries is intense and intrusive • Level of involvement would be considered interference and would be unacceptable under normal development

20. Rules for Effective Economic Reconstruction VII • Because of this, national ownership which is key to successful implementation and sustainability of reconstruction policies, is difficult to achieve • Policies should not be imposed from abroad or even by un- representative elites within the government • Up to national leaders to design policies, establish priorities and build broad support for them at national and local levels • National ownership, national capacity and ingenuity and national consensus building essential elements to sustain the peace. • The key challenge in this regard is to ensure that economic policies are conflict sensitive – tailored to do minimal harm to the fragile peace and to rein in the spoilers.

21. Rules for Effective Economic Reconstruction VIII • 3: Keep it simple, keep it flexible, and keep it possible • Despite scarce human resources, technical capabilities and infrastructure, countries on the transition form war must establish as soon as possible an appropriate environment for investment, production and trade. • Unrealistic and counterproductive to create a framework • that is to complex and • requires resources that it does not have, and may not exist for a long time • At same time countries should avoid policies that may be optimal for countries during normal development – • independent central bank and • other restrictive monetary or fiscal policies that may limit options to implement and finance key peace-related programs

22. Rules for Effective Economic Reconstruction IX • Since the establishment of clear and stable property rights is a precondition for investment policymakers need to address this issue head on • Many situations can be very complicated: • In El Salvador and Guatemala, combatants and their supporters occupied lands during many years of conflict the issue was backward looking • Involved establishing whether land titles existed in past and if so who held them • However once a sovereign government made a decision property rights were likely to remain fixed into the future • Property rights difficult to resolve since decisions involved numerous parcels of land in areas of conflict and registries had to be modernized and updated. • In such cases policymakers need to be flexible and realistic about what is possible and look for technical and financial assistance to improve the registry so they can resolve titles as soon as possible

23. Rules for Effective Economic Reconstruction X • The legitimacy of the government or other policy-making body will determine what is possible in economic policymaking • A weak international government or a United Nations or foreign occupying administration, should not attempt to implement policies such as • Privatizing natural resources • Creating property rights • Or any other major legal, institutional or regulatory changes • If doing so may incite political resistance even during peacetime • Failure to comply with Rule 3 has led to a number of setbacks and reconstruction efforts around the world • The simpler and more flexible the framework fore economic policymaking the more successful reconstruction will be • Often best to start with less ambitious goals and with more implemental projects and then expand as the situation takes hold.

24. Rules for Effective Economic Reconstruction XI • Rule 4: Create an appropriate yardstick to measure success • Given that in post-conflict reconstruction: • the political objective should always prevail over that of development, and • that optimal economic policies are not always attainable or desirable • A different yardstick should be used to measure success. Success should not be measured: • in terms of the number of jobs created, • the number of people taken out of poverty, or • by indicators of economic growth inflation – as is under normal development • Policies and projects must be judged by whether they contribute to peace and reconciliation -- rather than on purely economic grounds or merits. • In this regard the yardstick should be more qualitative than quantitative.

25. Rules for Effective Economic Reconstruction XII • An additional problem in measuring success in conflict-affected countries relates to scarcity and distortions in the data • Makes empirical research measuring impacts very difficult – often hard to choose between competing projects because not sure which will provide the most benefits • Rule 5: Aid should be channeled through the government to support a national integrated reconstruction strategy. • Post-Conflict aid has largely proven to be ineffective and expensive • By channeling a large part of aid through their own projects, based on their own agendas and priorities and utilizing their own contractors and inputs, donors have created a fragmented strategy • Rather than promoting an integrated one under the government’s leadership • It has also facilitated corruption and led to unsustainable projects.

26. Rules for Effective Economic Reconstruction XIII • As Rule 5 indicates for reconstruction aid to be effective and cost-efficient it has to be largely channeled through the government budget • Only this allows for a well-integrated strategy based on national priorities • “The best way to build capacity is not to del with dozens of different programs devised by individual donors, but to have donors fund programs that are well-coordinated on the basis of Afghan priorities and with an Afghan lead” • Only a tiny portion of aid is channeled through the Afghanistan Reconstruction trust Fund (ARTF) • The U.S. government only channeled $150 million in 2010 or 3% of its economic reconstruction aid through ARTF • Although the general rule, there are emergency situations where no time to go through normal process • In such cases funding could be distributed at local level possibly through Community Development Councils (CDC)

27. Rules for Effective Economic Reconstruction XIV • Rule 6: Humanitarian and reconstruction assistance should not be combined into one: Disbursement of reconstruction aid should not be delayed • Humanitarian aid – provision of food, shelter etc. is short run assistance • However by affecting relative prices and discouraging labor supply, domestic production, and the building up of domestic capabilities, continuation of this type of aid over extended period threatens self-sustainability and creates aid dependencies • As a result it makes effective reconstruction and an eventual move towards normal development more difficult • Although food aid another safety nets can save lives, they will increase food dependency and hurt domestic production • Should be phased out as soon as possible • Similarly provision of health and education should also be put on a sustainable basis as soon as possible.

28. Rules for Effective Economic Reconstruction XV • Since reactivating production and job opportunities is an urgent challenge in countries transitioning from war – • What kind of assistance will be most effective in creating productive capacity and local capabilities? • Only reconstruction (or economic) aid • Targeting investment opportunities that use local capabilities can increase productive capacity • Its economic impact will depend on: • How productively the aid is invested • Whether the investment is sustainable and • The impact it has on the labor market, on the exchange rate (Dutch Disease), on reactivating production and trade, and on protecting the environment

29. Rules for Effective Economic Reconstruction XVI • Rule 6 for effective reconstruction is that the disbursement of reconstruction aid should not be delayed while • waiting for the country to have the right conditions in terms of political leadership, governance, institutions and human capacity • in the meantime humanitarian aid continues to be disbursed • A serious problem with aid in Afghanistan and Haiti has been the exorbitant and disproportionate humanitarian aid that has led to strong aid dependencies • At same time reconstruction aid should not be allocated to projects that are not likely to survive or be sustainable – large infrastructure projects in Iraq • Reconstruction aid cannot follow a piecemeal approach of having a donor build a school here, another one a road there etc what is happening in Afghanistan • Schools and clinics without teachers and health providers will not help the country

30. Rules for Effective Economic Reconstruction XVII • Reconstruction cannot follow either the policy of spending as much as possible in many projects, hoping that some will stick • To be effective reconstruction aid needs to be provided in an integrated manner and taking account of local conditions and local needs and priorities. • The differential impact between humanitarian and reconstruction aid has become blurred with the same agencies, NGOs or military forces often providing both and with the two often under the same command in UN and US-led operations. • Summing up: • Countries coming out of war or major disasters have found it very difficult to create productive economies -- jobs • The resulting unemployment– particularly of the young and uneducated has been one of the most serious obstacles to peace and security • Failure at reconstruction has required large amounts of non-productive resources for foreign military and peacekeeping operations. • Effective reconstruction is key to avoiding aid dependencies

31. Summary: Rules for Effective Reconstruction

32. Alternative Approaches A number of options for future conflicts • Following the set of rules as above • Modifying the strategy • Expeditionary Economics • Creation of Reconstruction Zones • Implementation Issues • Training • Financing -- Microcredit

33. Expeditionary Economics I • Concept of Expeditionary Economics (ExpECON) introduced in 2010 by Carl Schramm President and CEO of the Kauffman Institute in Kansas City • Schramm put for the proposition that economic growth vital for stabilizing post-conflict/disaster settings • His logic was straight-forward • The U.S. military as often the dominant player in these environments must sharpen its ability to encourage indigenous entrepreneurship • Conventional U.S. approach in recent post-conflict recoveries has failed because it did not encourage and support indigenous entrepreneurial initiative and creativity

34. Expeditionary Economics II • Schramm’s work shares many of the frustrations put forth in the literature: • Moyo’s (Dead Aid) critique of aid programs actually producing net negative effects • De Soto’s emphasis on creating wealth out of dead capital • Schramm makes the case for the military to engage broadly in mid-conflict and post conflict reconstruction using a variety of tools • In his formulation economic reconstruction must be a part of a three-legged strategy following invasion and stabilization • To do reconstruction the military needs to • Expand its areas of competence and move away from a central planning mentality • Become a more flexible force that can facilitate economic growth while trying to stabilize the regions in which it is engaged

35. Expeditionary Economics III • ExpECON has generated interest because it • Provides a deeper understanding of the dynamics at work in most conflict and post-conflict settings • It lays out an optimistic plan to jump-start the economics in what were previously considered impossible situations • There is a distinct likelihood that in the future budget constraints will limit the implication of the standard approaches taken to date • ExpECON has the potential to provide a considerably less expensive alternative • Also a growing feeling in the U.S. military that economic conditions are increasingly important relative to military action in creating long-standing peace and stability in many settings • At a minimum ExpECON has shifted the focus of much work on post-conflict recovery to the role of entrepreneurship

36. Expeditionary Economics IV • ExpECON core elements • The strategic deployment of economic development to fix failed economies in crisis states • Fundamentally about business development • Based on the assumption that economies grow then businesses grow and • Focused on local communities and local business • ExpECON is not • A blueprint for Western foreign direct investment (FDI) • A call for promoting multinational corporations to set up businesses in conflict zones • Focused on empowering Western aid agencies or NGOs.

37. Expeditionary Economics V • Recent experiences of U.S. involvement in Afghanistan and Iraq • Illustrate the conditions leading to these propositions • Provide tangible examples of how the application of ExpECON might have produced a fundamentally different outcome • In both cases the inability of U.S. and coalition programs to re-start the economy and generate viable jobs was one of the key factors: • Prolonging the conflict and • Significantly delaying a return to some sort of stability

38. Expeditionary Economics VI Afghanistan • Despite billions of dollars spent over past decade in Afghanistan • The capacity of the Afghan government to deliver basic services has remained severely limited • In the more remote areas, the government’s presence is sporadic at best • Poppy production remains by far the most dynamic part of the economy generating vast profits – much used to finance the Taliban • With little in the way of local governance, illegal activity continues to thrive – undermining the authority and influence of the central government

39. Expeditionary Economics VII • Afghanistan’s dire state depicted in report by U.S. Congress, Committee on Foreign Relations (2011) • Situation in Afghanistan attributable to diverse mix of factors, leading to deterioration • Much U.S. aid effort been selectively used as a stabilization tool for a limited number of geographical areas – attempt to win “hearts and minds” • Aid effort so massive that estimated 97% of Afghanistan’s licit GDP is derived from NATO’s military activities and donor community presence • Unfortunately little empirical support for idea that stabilization programs have actually promoted stability • Some research suggests that factors such as aid facilitated corruption of government officials have made situation worse (U.S. Congress Committee on Foreign Relations 2011)

40. Expeditionary Economics VIII • Also little indication that aid effort has stimulated • Private sector activity and • Job creation • Rather than benefit the population and prepare for the future, billions of aid dollars have gone for foreign contractors and Afghan elites • Given the fact that by 2015 there will be significant cuts in spending and assistance with little or no indigenous production (outside of drugs) to pick up the slack cuts • Are likely to push the economy into recession • Derail the transition process, and • Condemn the country to a long period of further violence and conflict

41. Expeditionary Economics IX • From the perspective of ExpECON, extensive field work and interviews in Afghanistan found that: • Despite government and donor community neglect of the private sector, this part of the economy had tremendous potential for growth and employment generation • Many of the board-based stereo-types of entrepreneurs in conflict settings were completely wrong: • Afghan business are responding rationally to economic incentives in a highly distorted environment • Uncertainty and unpredictability, not physical insecurity, are the fundamental obstacles to business • Businesses are adapting strategies such as vertical integration, pursuing short-term trading over long-term investment and “buying” security in multiple ways

42. Expeditionary Economics X • Afghan businessmen (contd.) • Many business people believe that the Afghan government not only fails to provide basic services, but also engages in corruption that directly threatens their business and • International actors distort the business community in ways harmful to Afghan businesses • From these findings easy to conclude that Afghan private sector had the potential for positive change • -- if only given a chance in the form of some degree of stability and institutional reliability.

43. Expeditionary Economics XI • One promising area has been the country’s recent bottom-up attempt at stimulating the economy and improving governance at the local level • The country’s National Solidarity Program (NSP) is a community driven development program • In Afghanistan the NSP mandate the creation of a Community Development Council (CDC) in nearly every village • The NSP in effect empowers local community groups over planning decisions and investment through a process that emphasizes participatory planning and accountability • NSP has had some successes at considerably lower costs than large-scale initiatives

44. Expeditionary Economics XII • To advocates of ExpECON in Afghanistan cases illustrates the problems associated with attempting a top-down development strategy • Implemented by a corrupt dysfunctional government • Undertaken In an environment of uncoordinated aid programs • Where there is no focus on assisting the private sector • With the inability to make initial strides at developing and impending the rule of law • The result impeded a vibrant entrepreneurial class that was more than capable of restoring stability and growth to the country • If improved governance at the local level can be built and sustained, the country’s entrepreneurial energies may finally be unleased.

45. Expeditionary Economics XIII • Iraq • Like Afghanistan most of Iraq’s problems can be traced back to mistakes made early in the coalition occupation • A number of competing approaches were debated at length in Washington prior to the invasion • U.S. economic strategy in Iraq appeared to start on a very promising note • It closely followed text-book shock therapy model successfully implemented in countries like • Chile after the fall of Allende and • Poland after the overthrow of communism • The primary purpose of the reforms was to generate needed efficiency in Iraq’s socialist economy through competitive forces

46. Defining Iraq's Post-war Economy vv Iraq's post-war economy was a complicated mix of different models, each of which required a different policy remedy:

47. Expeditionary Economics XIV • US post-war economic strategy in Iraq was initially based largely on only the Transition Economy/Shock Therapy model: • This model is an extreme version of shock therapy focus on long-term efficiency • Its goal was to wipe the slate clean and start the economy anew • The strategy aimed to create an open economy with low taxes to promote foreign private investment • Its emphasis was on creating macroeconomic stability and an independent central bank, with government remaining largely passive in dealing with economy • It aimed for high job creation through rapid private sector investment and expanded output, with foreign direct investment (FDI) and profitable imbalances from massive reconstruction projects as its key ingredients--an unbalanced development strategy

48. Expeditionary Economics XV • The post-war economic strategy assumed that the government must reduce its role in the economy, expand the play of market forces, and undertake key reforms: • Liberalizing economic activity, prices and market operations • Establishing political accountability for economic performance, as well as public responsiveness to private sector economic needs • Developing indirect, market-oriented Instruments for macroeconomic stabilization • Using these instruments to increase market-based employment opportunities for Iraqis • Achieving effective enterprise management and economic efficiency, usually through privatization • Second-stage -- establishing an institutional framework to secure property rights, rule of law, and transparent market-entry regulations.

49. Post-War Strategy Dynamics • Iraq’s post-war strategy was intended to create Porter-type mechanisms of private-sector-induced reforms

50. Virtuous Circles – Successful Reforms