Global Economic Trends: The Business of Aid

Tuesday, October 20, 2009

Speakers

R. Glenn Hubbard

Dean and Russell L. Carson Professor of Finance and Economics, Columbia Business School; Coauthor, “The Aid Trap: Hard Truths About Ending Poverty”

Lars H. Thunell

Executive Vice President and CEO, International Finance Corporation

Presider

Roger Leeds

Research Professor of International Finance and Director, Center for International Business and Public Policy, Paul H. Nitze School of Advanced International Studies, Johns Hopkins University

ROGER LEEDS: Good morning and welcome to another session at the Council on Foreign Relations. My name is Roger Leeds, and I'm going to moderate this what I hope will be a very provocative and interesting discussion on foreign aid and business in developing countries -- a subject that our panelists know very, very well.

Before we begin, a couple of announcements that are very well known to Council regulars. First, if you have not already, please turn off all of your electronic devices -- and I'm told you're cheating if you put them on vibrate. So they're supposed to go completely off.

The format will be that I'm going to engage our two distinguished panelists in a discussion about our topic for approximately 30 minutes. And then, I'm going to open it up to questions from you the audience. And so, you can begin thinking of some very difficult questions for our panelists. This session is on the record. So, that's important to keep in mind please.

The bios of our two panelists are in your program; and so I'm not going to dwell on them. On my right, is Dr. Glenn Hubbard, the dean of the Columbia Business School, and the coauthor of a new very provocative and interesting book called "The Aid Trap: Hard Truths About Ending Poverty." And I think it's going to provide a very useful platform to focus at least the first parts of our discussion. The book presents a rather harsh indictment of the 60 years of development-assistance programs that have gone up until now. And I hope Dr. Hubbard will explain a little bit about that.

The critique is not that dissimilar from others who have been equally harsh on the development community. Last year, you may have read Dambisa Moyo's book called "Dead Aid." And Bill Easterly and others have been very critical as well. But his proposed solutions, as he's going to explain, diverge quite dramatically from what a number of other critics have said. So it creates a very interesting platform for discussion.

And on my left Lars Thunell, well known to many of you, as the executive vice president and CEO of the International Finance Corporation at the World Bank. By all accounts the premiere development-finance institution, for promoting and financing private-sector development going back to the 1950s. And I think in a testament to the growing role of the private sector and private-sector development in developing countries; the IFC has grown exponentially in the last few years.

We were talking before the session that when I was a junior investment officer at the IFC in the 1980s, I think my numbers are more or less correct; it was about a 10th or a 12th the size of the World Bank in terms of its disbursements to projects in developing countries. And if I'm not mistaken, it's almost 50 percent now or getting closer to 50 percent. So it's grown in absolute terms enormously and in relative terms to other development-finance institutions. And it does sort of tell you a little bit about how the private sector has gained prominence in the development-assistance world.

Let me start, if I may, by asking you Glenn to briefly summarize why you feel that -- and I'm quoting, "Business is the only sustainable answer to poverty." And your solution is something akin to the Marshall Plan, which you consider to be a quote-unquote, "stellar model for development," unquote. So why don't you expand on that a little bit to get us started here.

R. GLENN HUBBARD: Sure. Happy to do that. I came to the problem as an economist who has specialized in studying growth most of my career -- high growth episodes in countries, high-growth episodes in industries and firms. This of course is the opposite. This is abysmal growth, negative growth over a couple of generations. From the point of view of economic philosophy, what Bill Duggan, my coauthor and I, argue in the book is that there's been a tension among economists between what I would call big push solutions, heavy-handed, top-down macro solutions versus more Hayekian approaches. This is played out in the recent Bill Easterly book you mentioned among others.

The argument that I advance in the book is that the way most countries have successfully grown historically and in modern times is by a vibrant, local business sector. One way to encourage that in countries in which it has been absent is institutional reform of course. I had worked very closely with President Bush on the Millennium Challenge Account. And many of the ideas for the MCA actually came from research of economists like me on governance and growth. But at the same time, I feel that the implementation of that missed the boat on a real focus on local business.

The Marshall Plan is an interesting contrast. I know it's fashionable to talk about the Marshall Plan as an aid program. It really wasn't that. It was a program very Hayekian. It was loans to individual businesses. Only when those loans were repaid did they go for infrastructure projects.

So it turned the software and hardware system of aid sort of on its head. It was immensely successful. There are no Marshall Plan offices in Europe today. There haven't been since the early 1950s. And I think it offers a rhetorical model for what to do in Africa -- something very centered on local business.

And just to wind up, there have been recent proposals -- Bill Easterly is an economist, colleague and friend has made. And the most recently, Dambisa Moyo very critical, as you say, of the aid establishment. And I share many of those criticisms. But I do not believe that the right answer morally or as a matter of economics is to wash one's hands and go away. Rather, I think the right answer is to focus on what works, and what works is local business.

LEEDS: Lars, since you've read Glenn's book, you may have noticed that he barely mentions the IFC. And when he does, he's not particularly complimentary of what the IFC has done. Hasn't the IFC been doing this for the past 60 years, what Glenn is proposing? And is the IFC very well positioned in the future to even expand its role to continue doing what he is proposing?

LARS H. THUNELL: Before I answer your question, let me just back off because I think it's one thing that is important, and that is that in the current crisis, we see the poor countries, the poor people being hit very, very badly. And we see -- the World Bank I think estimates that 90 million people will go into extreme poverty as a result of the crisis.

So before I start arguing for the private sector, I think I would like to just state very clearly that I don't think it's an either/or solution, it's both. We need safety nets, we need to take care of the real poor people. We need to get food to the children that don't get any food. I think that's -- I just wanted to make that very clear initially so that we can then go on and say okay, how do we grow promote the private sector side?

And yes, IFC has done what you said, promoting the private sector over the last 50 years. And I wish I had had a discussion before Glenn wrote his book, because then we could have corrected some of the stuff. I just give a few facts.

We have expanded -- but when IFC was started it was basically a -- (inaudible) -- back 50 years ago. We went in with a Western firm doing a project in a developing country and kind of got out. Today, about 70 percent of our projects are with local banks and local companies. We support South-South investments.

We do a lot with the largest firm financier of microfinance. Actually, last year we did 7 million -- 50 institutions were involved in did $7 million loans to microfinance. So we train local entrepreneurs. Now there is a case in the book where we are -- say that we don't do -- we only do the kind of Mozambique Aluminium plant. And if you look at that particular project, we had a linkage system. So we have developed local suppliers around that project.

So we have -- I think it's about close to 100 companies now that are supplying in -- you know, gardeners and the simple things that this big plant needs. And it's actually been so successful, so now the Mozambiques are taking that program and Coca Cola and others in Mozambique are instituting the same program. So I think this is what the core of IFC is all about.

And we have -- as was said, we have grown. When I came, we did about 6 billion (dollars) for our all account in 2006. And over the last two years, we did about 11 (billion dollars), $12 billion. We have shifted also the volume to the poorer countries. When I came, about 25 percent of the projects were to IDA countries. Last year, more than 50 percent was to IDA countries.

For the first time, we had gone into it in a big way to post-conflict and fragile states. We do things in DRC, we do things in Afghanistan. We do things in the Central African Republic, and so on -- Lebanon, West Bank, Gaza -- West Bank, I should say. So we have shifted the emphasis much, much more on development impact and the small entrepreneurs because that's where we see the -- and so, I very much agree with Glenn on the importance of this.

LEEDS: Glenn, the book talks about a Marshall Plan. And I'm sure you've heard this before that the Marshall Plan was to reconstruct well-developed countries with institutions both -- political, legal, economic, a legal framework that had existed prior to the war and so forth. And these countries simply -- that you're proposing a Marshall Plan simply are nowhere near that level of institutional, political, economic development. So what makes you think that that type of a model will work in countries that have enormous constraints that did not exist in post-war Europe?

HUBBARD: It's a great question, and it's obviously the key one. When one uses the Marshall Plan to flourish, but I would note first that Greece in 1947 was a desperately poor country, so it's not the case that Europe in 1947 was full of countries that had all well-developed institutions.

But what I mean by the Marshall Plan in the book is more its software and how it worked -- the fact that it was run by businesspeople. Paul Hoffman, who was the CEO of Studebaker, a major company in the day and had been the chairman of the Committee for Economic Development, ran the Marshall Plan. It was businesspeople who did it.

There were overseas offices that competed with one another. And it's only as you were superior in your reform strategy that you could get bigger allocations. Businesspeople helped train others in credit analysis. So it's in that sense -- the Marshall Plan emphasis, the Marshall Plan structure -- that I think it worked, even though obviously, Europe in 1947 on average is very different from Africa today.

LEEDS: But Lars, you know, 25 years or more, a quarter century or more of private-sector development has been the watch word of the development community. There was a dramatic shift starting in the early 1980s from state-led growth and from focusing on state planning and so forth to the private sector. So we have a quarter century of experience.

And yet Glenn and many, many others are saying the results of the development-assistance community have been rather pathetic, that despite this tremendous shift of emphasis and resources and technical assistance and programs to private-sector development, taking off your IFC hat for a moment, why hasn't there been more progress? Or you could argue there has and it's not recognized. But what are the reasons why it has not been as successful as people like Glenn are saying?

THUNELL: Well, I'm not sure that you're correct in your statement that there has been this major shift. I think if you look at the aid industry, it is still the dominant factor in the whole -- or the public sector side is still the dominant factor in the whole architecture, and continues to be so. And one of the reasons why I welcome this debate is because I think there has to be this voice for the private sector aid industry. And actually in Istanbul, I had a meeting with -- called a meeting with the 35 sites that are involved in private sector and we talked about this.

Because we tend -- if you look at it, it's very clearly in Glenn's book. All the people who are in decision-making positions basically have experience from the public sector. So there is no voice in this debate for the private sector. And that's why I think this debate is a very good one. There has been, I think, some progress in some countries. If you look at -- you can't give the credit to the aid, but if you look at the success of the whole of Asia, I mean, why has that happened? It was because of -- businesses developed.

It was because the Chinese and the Vietnamese and others started to really focus on the private sector. And I don't think that the aid industry, if I call it that, can be the driving force, but it can support that as we do still in China. We moved away from the big cities, we're only focusing on rural development and the climate change issues in that country. But there's still a role there. We could -- I think with Glenn's proposals we could do much more in places like Africa.

HUBBARD: Can I actually just jump in on this Roger, if I might, because I agree with Lars 100 percent. What a lot of economic aid to Africa has tried to encourage is the climate for FDI, for multi-nationals that's all to the good, I suppose. Dambisa Moyo has China as the answer to Africa's problem.

I think what's missing in what Lars was just talking about is more of an emphasis on the local business sector. The recent book by George Ayittey, "Africa Unchained," is more what I have in mind -- a focus on developing that sector. China's approach to Africa is just new colonialism under another name. I think there's an opportunity for the United States and the West in the -- actually Lars's ideas.

THUNELL: Can I --

LEEDS: Go ahead.

THUNELL: -- I think there's one -- and I think one would have to take the full picture. You need to fix the regulations, you need to build the capacity including trained entrepreneurs. You need to make sure that access to finance is there. And we have one very interesting project that we have worked on in IFC over the last year, and that's health care, which is very, very controversial when it comes to should it be public or private.

Well, the fact of the matter is that the poorer the country, the more private the health care by necessity because governments don't have any money. So we did a study together with the Gates Foundation, got the facts together and realized that we needed to take a holistic view on this. So we are working with the World Bank on the regulation now in a number of countries, making sure that you have an investment climate. But the other side of that is that you've got quality control, because there was no quality control of the health industry in Africa.

Secondly, working and training banks -- and we're working with a lot of banks where we train them and share risk with them when they lend to local businesses, SMEs, and we did a special program for the health industry. We set up a fund, private equity fund, to invest equity in these private health care clinics. And we actually -- for the first time, when we did investment in a fund like that, we actually not only give the manager of that a fee based on the financial success, but on the development impact.

I think this is a very good example of how you can work in a holistic way and try to look at an industry or a section that is underserved, especially for the poor, and try to fix it. So it's going to be very interesting to see this project develop over the next couple of years.

LEEDS: Glenn, one of the things you say is that most governments are anti-business in the developing world. And first, is that -- do you really assert that that's true? And if so, given that you need to have indigenous political will to get anything done -- Lars just said it, you've said it -- that nothing is going to work unless there is indigenous political will.

How do you overcome that anti-business sentiment as an outsider, from the outside? That seems to me to have always been a tremendous challenge and has opened the door wide for criticism of development assistance in the past when you don't have a receptive local environment and there's nothing we can do about that.

HUBBARD: Well, it's a hugely-important question, it's probably the most important question surrounding the book. As a matter of fact, if you look at the Doing Business Indicators, which I think are very helpful simple index measures of --

LEEDS: The World Bank?

HUBBARD: -- the World Bank Doing Business Indicators --

THUNELL: IFC.

HUBBARD: -- IFC -- of course, Doing Business Indicators. (Laughter.) I'll give a commercial for Lars on this. We feature them in the book, so we're not beating up on the IFC. We think they are the easiest to explain and most accurate in the matter of economics. But if you look at their measurement, African countries vary widely. In fact, there are some recent success stories -- Rwanda and Mauritius comes to mind. But most of the countries score at the very bottom of the Doing Business Indicators. So in that sense, yes, there is an anti-business bias.

Now, how do you change that? The Millennium Challenge Account's idea was you could change that by basically financially supporting the development of institutions. You would get additional aid if and only if you took steps. That's an approach.

I think another approach is really pushing hard on the local business community. We know from political reforms around the world, that the growth in a more business-oriented middle class can be a key to reform. One of the things that our students have even done at the business school, we've been in Kenya and Tanzania now for six years training entrepreneurs. And it's quite amazing the communities that one can build.

So I think this can be done. It doesn't require simply top down, MCA-styled intervention, but bottom up will also be important. Is it easy? No.

LEEDS: Would you agree that most governments are anti-business these days? Or would you say it's more of a mixed bag?

THUNELL: I think it's -- most governments, I think, have realized the importance of the private sector, and they're trying to change. The problem is that they don't know really how. And they also have a bureaucracy in their government who still have vested interests for the old system. And it was very interesting. I had a discussion about this with the Tanzanian president, and he said -- you know, and this was right in the middle of the crisis -- he said, I've been trying to move Tanzania towards a market system.

But now, you know, when you guys say it doesn't work in the West, I've got all these naysayers in my kind of middle management who are saying, you know, the system doesn't work, so let's go back to the old one. That was his problem. And I think that's similar in many of these countries that you see.

The other thing is -- one thing that is a problem that I just wanted to point out, and that is, that in many countries, yes you believe in the private sector as government, but you also believe that you should control the companies personally. There is a lot of, you know, the cousin of the president or whatever, the brother of wife to the president owns companies. And that is not -- and they're misusing regulations to create monopolies or special advantages or something like that. That is a big, big problem.

LEEDS: That points to this whole question about can any external program be successful when those types of barriers exist? And I think that is your point.

What is the institutional mechanism for delivering the so-called revised or adjusted Marshall Plan? I mean, if it isn't going to be government resources and a government institution, is there some other way that we can get less government interference with this type of initiative that you're talking about? Or do we have to continue to assume that governments and their resources -- taxpayers' resources are going to be the major financial impetus for this?

HUBBARD: Very good question. The argument for the Marshall Plan is first about its software; that is, how it worked. So regional offices in Sub-Saharan Africa in some cases country-specific offices; run by business people with allocations of taxpayer money. So we're not saying in the book -- Bill and myself, go to no aid. We're saying redirect existing aid. We're not saying spend more, but we're saying spend it differently. So it would be a much more decentralized solution.

The MCA for all of its good rhetoric and design about changing institutions was still through government. And it's in that sense I think that it missed the boat.

LEEDS: Mm hmm. Okay.

HUBBARD: So it's still taxpayer money.

LEEDS: Well, rumor has it, Lars, that the IFC and the Bank along with all the other DFIs are about to hit the road to request that governments give them a very significant capital increase. It's interesting that you're all going out at the same time. I hope it's not too crowded out there on your road show. (Laughter.)

What's the pitch you're going to make? And you're going to be going out with the World Bank, which is not Glenn and many others' favorite development institution; whereas, IFC seems to be the preferred approach. What's the pitch you're going to make when you go to these governments -- sitting next to your World Bank colleagues, I presume?

THUNELL: Well, let me first say that IFC has been self-financed over the last 50 years, we've done one or two capital increases. But basically, the growth that we've had over the last five years has been self-financed. And we actually have made money so that we also have been able to give $1.8 billion to IDA. So now, we are actually running into constraint.

We don't have enough money. And we are the ones, who are right now, having to say no to projects because we don't have enough money to support our operations. Not that we're in bad financial shape, I'm just talking about the volumes themselves.

And I think the debate -- first of all, I have respect that you can't go to congresses and parliaments around the world with a little bit for World Bank, and a little bit for IFC, and a little bit for the African Development Bank. You have to kind of go with some type of package for everybody. So I think there are efforts to kind of coordinate so we'll all be in the same. And I think it's up to the governments to decide how they want to allocate it between the safety nets, some of the IBRD middle income support and the IFC.

And I think the important debate here is how much should go to the private sector? Not to IFC, but how much should go to the private sector because you've got private sector windows within the various institutions -- Africa Development Bank and so on. But I think if you look at -- and we looked at some of the numbers, even if you exclude EVRD, which is a special case and take the others. Even if you were to double their volumes over the next five years, you would come to where IFC is today. So no solution.

If you are going to do something on the private side, it has to involve IFC. And I think our numbers kind of talk for themselves. If you put in a dollar with IFC, the total project costs are something 17 times that or something on the average. If you -- and then, you've gotten a return on top of that. So actually, if you put money into IFC, we could generate a profit and then we continue to give some to IDA. So you could recycle some of the money. So that's a good argument.

Then finally, I think one of the problems and that's in the whole aid industry -- I think you mentioned in your book -- is that it's all output based and not result based. We at IFC are focusing very much on the result measurements. I can give you some numbers. As I mentioned, if you look at -- (inaudible) -- small- and medium-sized enterprises, the firms we work with, the banks, gave out 10 million loans for 100 billion (dollars) last year.

For utilities we have -- our companies have 20 million (dollars) for water customers, 166 (million dollars) for power, and so on and so on. Jobs, 2 million, health care 5-and-a-half million patients, education, 1 million students. Payments to governments, this is important, we actually generate funds for the government; 23 billion (dollars) taxes were paid by the companies we were involved in supporting. We shouldn't take all this credit, by the way, but this just gives you a map. Local supplies revenues 47 billion (dollars).

We measure these things and I think that's where all these policyholders and decision makers should focus in on. Get the comparable metrics for the aid industry. And I've tried on the -- and that was one of the other things we discussed when we have had working groups on the private sector side -- that trying to move to a common standard so we can, for example, CVC in England has moved now to using IFC kind of technology for measurement.

And I think this is very important because then you can say what am I getting for it? If I put money into IFC, what do I get and what will I get if I put it somewhere else? And I'd be very surprised if we wouldn't do fairly well in that competition.

HUBBARD: May I actually add to this, Roger, because I think that what Lars has said is really the core of all of this. The goal for economic aid at least should be to put itself out of business, much as the original Marshall Plan did. And this focus on results is not only good for a road show, it's the right thing to do as a matter of economics.

The other thing that I think will help in a road show and is largely missing from the debate now but was very present during the debate over the original Marshall Plan was the role of business leaders. Business leaders sold the Marshall Plan to a skeptical Congress. They pointed out that it was in the nation's interest, the world's interest and in our commercial interest. Business leaders are largely absent from this debate today. And that will make this capital race, I think, more difficult.

LEEDS: I think it's a critically important point. I should add that Lars is a former business leader so he fits that profile. But it really is true that the debate has been captured by people in government, in the development-finance industry. And there is not enough of a voice or interest by business leaders. And we have to find a way to engage them more and induce them to be more front and center on this.

We would like to engage you now. We have microphones around the room. Two or three things, one is please stand, identify yourself and your affiliation. And for the benefit of all of us, you will get one question only and keep it short, concise and to the point and difficult.

Yes, ma'am. Wait for the microphone.

QUESTIONER: Hi, I'm Debbie McCoy, my firm is 2020 Capital. My question is about private capital flows into the emerging markets to private equity funds. There is some commentary that the presence of development-financing institutions and almost a requirement that they be early limited partners or anchor investors in funds prevents other institutional investors from coming into these funds. I wonder if there are any thoughts on this and how it might impact the emerging market, private equity industry over time?

HUBBARD: Well, these two gentlemen are even more expert than I on this. There is a large emerging market, private-equity industry forming, there's abundant capital. Many -- Roger is actually teaching a class to our students. This term has huge interests from businesspeople. The stumbling blocks for private equity in much of Sub-Saharan Africa have to do with some of the institutional features that we've talked about. But I'm not aware of any quashing efforts on the part of the international financial institutions. But you guys may know.

LEEDS: Do you want to go ahead? I'll --

THUNELL: Sure. We -- for us, we have a special department investing in private equity. I think we have a portfolio of around 140 funds that we've supported. We shifted it from supporting private-equity firms primarily in places like London, New York or Washington to actually trying to work with -- develop local, private-equity firms in the various countries and the industry in those countries. That has been the focus.

I haven't really heard -- I mean, there is -- of course, since we can't do everybody and there is always going to be some funds that think that they should have gotten it and don't get it and they are upset, I can understand that. The interesting thing that has happened during the crisis now is that a lot of firms that didn't really need us before the crisis are now coming back and saying we need you because you have -- we need you as an anchor investor.

And one very big firm in New York the other day called me up and said to get to the critical mass, to really get started off the ground and attract other people, we need you in there. So it's more -- the problem we are having is that there are too many who want us and we have to again ration what we're doing because we don't have enough capital.

LEEDS: Let me just make a quick observation here. In 2003, 3.5 billion (dollars) more or less was raised for private equity and emerging markets. In 2008, before the crisis, the number was over 65 billion (dollars). It's a huge, unnoticed success story in terms of the growing interest amongst institutional investors around the world in providing capital to private-equity funds both international funds and, as Lars said -- and particularly IFC has been an enormous catalyst for this -- local, indigenous funds.

And most of them -- contrary to what you read in the headlines about buyout funds, most of these funds are focusing on middle market companies, what Glenn referred to as the missing middle, which is exactly what's important. And given the weakness, the persistent weakness of the financial sectors in most of these countries and the lack of alternatives of financing for the missing middle, it's an enormous story. And it's just beginning.

So I don't see that there is going to be a lot of resistance. Fundraising went down in 2009, but it's already starting to creep back up. And I would imagine that the future of private equity investing in these countries is very, very significant, but the problem is deal flow.

As you said, you know, these are very tough, rigorous investors. They're going to be illiquid. They're going to be investors for a long period of time. They make a mistake, they're not going to be able to get out. So they're very, very tough in terms of who they want to invest with. And so -- but it's a very, very good story I think and it's just beginning.

THUNELL: We right now are also trying to move down markets, micro-equity. We're trying to set up a micro-equity fund in Liberia. And that is probably as hard as it comes.

LEEDS: That's what you call high risk, that's a very high risk. (Chuckles.)

THUNELL: But it's I think a very important thing to try to do.

LEEDS: Yes, ma'am. Yes.

QUESTIONER: Betsy Williams with JSI, and I'm glad you mentioned Liberia because I was actually going to push back a little bit about these post-conflict, very poor countries. In terms of just getting them on the rung, one person who hasn't been mentioned is Paul Collier. There were many other arguments that have come out in the last couple of years. And so, if you could just dig down a little bit about what your recommendations might translate into a country like Liberia that has visionary leadership, no infrastructure, a lot of international development going into it.

HUBBARD: Well, Paul Collier's book focuses on a number of factors, conflict that you mentioned, being landlocked, a number of geographical and political institutional factors. I think his basic thesis is actually quite sympathetic to the notion of a business sector. His arguments are probably stronger than I would make on geographical limitations on the focus of business. We haven't seen that elsewhere in the world.

I think the answer is not either/or as Lars was saying, but a mixture. So institutional reforms, which was the MCA-type goal, is still a very good idea. I'm just skeptical that that kind of top-down without a focus on local business at the same time will work, if by work you mean actually create local business as the answer.

You should note that in the development of most countries that are successful today, it was not a big push development of public goods that led to prosperity. Rather, public goods were kind of normal goods that were required as a society became more prosperous. So focusing on the local business still strikes me as the right thing to do.

THUNELL: If I may, I think first of all, one thing we haven't talked about, which is very important in Africa is the whole question of infrastructure. So you're absolutely right that one has to look. And I think again some of that can be done by government and by aid money, some of it can be done in public-private partnerships and we're working on some in Liberia. And I think there is a lot of creative work that can be done actually on the borderline between the traditional aid industry and private sector. Performance-based aid is one very good example of that.

But in Liberia, we are working with the government on the regulations. We are working with microfinance. We're trying to do these PPPs on the power generation side. And we're trying to help the government on the question of natural resources, which is another way where they need to actually -- and they don't even have capacity for how to negotiate contracts and other things with companies coming in.

LEEDS: Yes, sir.

QUESTIONER: Yes, my name is Dan Burton, I work for salesforce.com. And I tend to look at these kinds of issues through an Internet prism. And I think there is a third model which has not been discussed, and that's really social entrepreneurship. And I think both the Marshall Plan and IFC-World Bank those are top down models. And if you look at what's going on with politics, with economics, and I think increasingly with economic development internationally, it is micro teams of people linking up through social entrepreneurship, picking a school, picking a city, sort of working with a team.

And so I think that in fact if you look at the big trend or one of the big quiet trends happening, there is a whole new model evolving. And I'd be interested in hearing both the speakers' comment on that.

HUBBARD: Well, on your point, first of all, I wouldn't accept that the Marshall Plan is top-down, it was quite the antithesis. I mean, the loans went to individual businesses then came up. So it turned the current aid world more on its head. The social entrepreneurship that you mentioned is very fashionable. It is growing quickly. But that kind of promote a school, help a disease, NGO development isn't going to promote in and of itself economic development.

It doesn't mean it's not good. It doesn't mean it's not important. But in and of itself that's not how economies grow. It may be a way of getting more capital into networks to promote private investment. But where it's being used at the moment, at least in the cases that I'm familiar with is much more social entrepreneurship -- school, finance, health care and issues like that. So it's very important, but I would say not particularly for economic aid.

That's just my view perhaps.

THUNELL: We have -- I think it's important as all these things it's not either or in its important aspect. We had a department that was doing what we call grassroots social entrepreneurship. But it was kind of strangled by our bureaucracy because the deals tended to be small. So we actually spun it off. And it's now a very -- it's called a grassroot fund and a grassroot organization. And it's now working very well, and it goes beyond actually the social things. It helps small entrepreneurs, you know, people weaving things and craftsmanship, and all kinds of different things, including some microfinance.

So yes, it's another important facet, I think. And, you know, we shouldn't say that one is better than another. Let many flowers bloom here. I think that's a good flower.

LEEDS: Way in the back, yes.

QUESTIONER: Hi. Andy Olson with U.S. Senate Homeland Security. Actually, I had a question about local entrepreneurs. You talked about -- I almost got the sense that they were a driving force here, that they are the people that you're targeting. It seems to me that the developed world sort of has the lock on economies at scale and technology, but that the developing world actually has some unique competitive advantages as well.

And I'm thinking in terms of local product authenticity. And I'm thinking about a conversation I recently had when I was in Turkey with a dealer in Turkish and Persian carpets. And he was talking about competing with, you know, mass-produced rugs in China. But his advantage was that these were, you know, hand made and of quality. And so I guess what I'm wondering is, how do you help entrepreneurs like that brand their products as unique and special and help them, you know, become more sophisticated and plug into global markets?

HUBBARD: I think it's a great question. And there are some examples that -- you've touched on what Roger called earlier this missing middle, the fact that it's not just about microfinance or not just about the giant projects that multi-nationals do. It's working capital loans, it's helping mid-level entrepreneurs market their products. Some U.S. companies have been better than others at setting up networks.

For example, when President Kagame from Rwanda was in New York for U.N.-G8, one of the meetings I went to with him was actually hosted by the CEO of Macy's. And what Macy's has tried to do is exactly this of partnerships with local groups of entrepreneurs for branding, quality control and vetting and using Macy's network to try to help get financing to those entrepreneurs.

This is something where business leaders can take a big role. Macy's wasn't doing it to be a good egg, it was doing it because it would make money at it. So there is a natural match here at least for some consumer products.

THUNELL: If you look at what we're trying to do, I think, first of all we got an advisory service that works with these types of things. Just to take one example, we worked with an apple juice manufacturer to install a good system so they would be able to track which is -- track where the apples were actually coming from. And that is important if you're going to sell it in the United States or in Europe or somewhere for food security reasons. So these types of things we're trying to work with. We have training programs for small entrepreneurs.

But I think -- and then we go the other way around. We try to bring in the strategic partners from the U.S. or Europe for technology transfers. I think there is something that is very important, I'd like to say. And that is, if you look at what is the world going to be after the crisis. You know, the growth is going to come to a large extent from the emerging markets and the new middle class there and the lower class.

If you look at the purchasing power of the people that are living on less than $3,000 a year, that's 4 billion people, 5 trillion (dollars) of purchasing power. That's a market for anybody. But how do you access that one? You don't access it by trying to have a little export department sitting in New York trying to peddle these extra things that they happen to have extra in inventory.

So it was a very interesting article in today's Washington Post about, you know, how now product development has to happen geared for this market. You have to develop products for this market. And that's a whole new challenge I think for U.S. industry and European industry. Now look at the -- (inaudible) -- which I think is a very interesting example.

We have -- and you're complaining actually about us in your book.

LEEDS: He remembers these parts. (Laughter.) Page 99.

THUNELL: And that the small -- let me take the example. We have a company called Wings in Indonesia that we work with. They have been able to compete with Procter and Gamble because what did they do in selling shampoo, they did it not in big bottles, because the poor people can't afford to buy them. It's one time use, a little thing. And there, they can afford to buy one and then you go home and wash your hair.

This type of thinking of -- maybe not dramatically new but adapting your technology, adapting your products, adapting your distribution systems. And that's a mega business opportunity for business. So I would argue that this is -- since you come from the Senate, that this is a major business opportunity for U.S. companies. And I would also argue -- and I think Glenn said it earlier -- that unless we get these entrepreneurs and this middle class going in these countries, we're never going to have democracy of any stability.

And I think if you look at the demographics now in the whole area from Northern Africa all the way up to Indonesia with 50 percent of the population being younger than 25 years. If we can't create jobs for all these people, you know, we're going to have a problem. The world is going to have a real problem.

LEEDS: Let me just say that it appears that your entrepreneur in Turkey is a poster child -- candidate for private equity. He is a middle market company who probably needs two things -- extra capital to expand his business and create an export-oriented business and marketing and so forth. But he also needs expertise to get his business to the next level. And this is precisely what private equity does. It's not just the money, it's the money plus the ability to work with these entrepreneurs to build value, to grow their businesses using their expertise that they've had with other companies in other countries.

The problem is that for these middle market entrepreneurs often is they want the money, they want the expertise; they don't want to give up ownership even temporarily. And so you have to convince them that there is a quid pro quo for the money and the expertise, which is a dilution, but a dilution which will allow for a larger pie, a larger business. And that's the challenge in many of these middle market companies.

Sir.

QUESTIONER: My name is Michael Samuels from Samuels International Associates.

Dr. Hubbard, your emphasis on the importance of local business in many countries is something that has fascinated me for a few decades. And one of the things that surprises me is why local business interests in many developing countries have been so slow at seeing the Bank-IFC doing Business Indicators as a vehicle for them locally to try to get their governments to improve the business climate in which they operate. And why they aren't a more effective lobbying force in their own countries.

HUBBARD: Well, first thing within a country a business sector in an emerging economy might have -- you know, Lars mentioned monopolies and other state-sanctioned large businesses that might have little to gain frankly from reform. And so the question is the empowerment of individual local entrepreneurs. I think the Doing Business Indicators have been helpful.

I think if you look at Rwanda, Mauritius, to a lesser extent Kenya, and improvements in doing business, I think that's a matter of great pride. I think it's the business community's single minded focus in pushing the government and responsive leaders. So I think those indicators because they are simple as well as correct, have been used as a great mirror.

QUESTIONER: Fred Tipson, I'm with the U.N. Development Program here -- representative here in Washington. And of course Paul Hoffman, who you admire very much, went on to become the first administrator of UNDP and attempted to try to translate the Marshall Plan experience.

It seems to me the book is an accurate, economic diagnosis, but a completely apolitical prescription. Roger has already noted the difference between the Marshall Plan context politically and the political context that exist in most of these countries.

There were strong institutions, there were legal systems. There were all kinds of conditions under which the private sector could grow. So we really have a political challenge and need a political prescription and strategy for how we enable a private sector environment to develop.

The best examples of private sector -- Zimbabwe, Kenya, what's happened to them. They've been politically squashed in some ways, not so much in Kenya, but certainly in Zimbabwe. So I don't see in the book a realistic diagnosis of the political problem and a realistic political prescription of how you -- other than preach the 10 conditions. But all those conditions have institutional support behind them that make them real. And the record of Asia is strong governments, not governments getting out of the way necessarily.

HUBBARD: Well obviously, I don't quite agree with your characterization. I think I'd be bold enough to say that the book is probably one of the few what I would call practical suggestions as opposed to spend more or just say no. It's somewhere in the middle. It is very focused on the Marshall Plan infrastructure. I would push back, as I did somebody else's question, the notion that Europe was entirely different. In some ways yes, in some ways no, it was a lot of heterogeneity.

But certainly, I think the institutions are applicable. In the book we contrast Gordon Brown's vision of a Marshall Plan with the outline that I gave you and suggest actually redirecting half of economic aid in a very tangible way towards this effort. Indeed, I think it is very political. If I were in the Obama administration, something quite unlikely given my political background -- (laughter) -- but if I were, I could imagine conversations that the president feels there is a need to act. He might feel there's a need to act for a variety of reasons -- one moral, one China's inroads against American interests in Africa.

His budget director would surely be telling him Jeff Sachs is on another planet. You're not going to spend .7 percent of American GDP on this. So what could he do? This is something he could do. It is very aimed at being that political answer.

QUESTIONER: A couple of times -- I'm sorry, I'm Stephen Colecchi, I'm with the United States Conference of Catholic Bishops. A couple of times we've talked about the importance of comparative advantage. And it seems to me that there were two major forces that sort of dwarf all of the aid flows that we've been talking about. One is U.S. agriculture policy as well as the policy of Western Europe and Japan, which sort of undercuts the comparative advantage developing companies would have in the area of agriculture.

The other is the whole extractives industry, another comparative advantage that many developing countries have -- rich in resources that can be extracted. But private companies going in and doing the extraction in ways that does not allow the actual benefits to flow to the populations of those countries and to build their infrastructure and to build their capacity for business and so forth in developing a broad middle class and all those things that we support.

So I would just want to -- we've been talking a lot about the problems within developing countries. I'd like to talk about a couple of problems within developed countries such as our agricultural policies, such as our extractive industries that do not promote, you know, sort of transparency that are significant barriers to development in developing countries.

THUNELL: I think both are very important issues and obviously the food security, I agree this was something that hit the poor countries even before the financial crisis. And it went back, by the way, but we now see it's coming back up again. And we've got drought in many parts of the world. And it is a real problem. And of course, the whole issue of subsidies in the developed world is an issue, I agree 100 percent.

I mean, I sometimes say, we talk about, you know, extreme poverty is at $125 per person per capita. And at the same time, the Europeans give $1 -- I think it's even $2 per cow per day. So where is the justice? So I think those are things that need to be thought through. And then you've got to tie in also to the question of the bio-fuel and energy security. And we know that when oil prices get over around $55, you start to get a straight correlation between food prices and oil prices.

So I think these are things that need to be addressed and I think there is a debate that's flowing back a little bit that I think should be resurrected.

HUBBARD: Lars, on your point about agricultural products here, you're right and that's incredibly important. It's a great American trade error. It's also a European trade error. And going back to this gentleman's question about politics -- the U.S. political system -- as somebody who is tilted against agricultural subsidies a long time unsuccessfully, probably the emerging markets are not going to be the compelling argument. If that argument is to be won with the American people, it's probably about budget deficits and the use for the money here. But I agree with you that its negative externality on the Third World is huge.

THUNELL: Can I say one more thing? You mentioned extractive industry and I think transparency is very important. The World Bank has what they call the Extractive Industry Transparency Initiative, which I think is trying to drive some of these things.

But there is a link here also going to domestic policy of various countries, and that is the whole question of climate change, which has not been mentioned I think because we just mentioned it. Because I think that's another area where we're going to have a debate with other solutions going to be all public and you know this big central plan in Easterly's terms coming down the road. Or are we going to allow also a role for the private sector? And I would argue again we need to have both.

And then, we need also some adjustments in terms of, you know, we've been asked not to develop coal projects in -- (inaudible) -- countries while a lot of developed countries are doing their coal projects. Is that fair to ask the poor and not have no alternative.

QUESTIONER: Hi. Don Pressley with Booz Allen Hamilton. I wonder Professor Hubbard, did you look at the enterprise funds as an operating model that's more recent than the German Marshall Fund that seems to have many of the qualities that you're espousing.

(Cross talk.)

LEEDS: You have to explain what they are. The enterprise funds -- should I just say a quick word? The enterprise funds were created after the wall came down in 1989. And they are effectively private equity funds with government support to promote -- finance individual companies in the Eastern European and former Soviet Union countries. And it was a very interesting model that has not received a lot of attention.

HUBBARD: It is indeed a modern incarnation of the Marshall Plan. I use the Marshall Plan rhetoric because it's familiar to everyone. And I think it's surprising to many how it actually worked. But yes, enterprise funds are an example.

LEEDS: Yes.

QUESTIONER: Good morning, Holly Wise, Georgetown School of Foreign Service. My question is also on the political side. Unhappily for us the AID administrator post is still vacant. And so, I invite you to step up Dr. Hubbard and be the AID administrator now for a moment. (Scattered laughter.)

HUBBARD: (inaudible) -- is not that big in the administration, I'm afraid.

QUESTIONER: I'm giving you $100 for the kind of work that you --

LEEDS: Do you have a question quickly, because we're running out of time.

QUESTIONER: -- I'm asking you how you would spend that please. AID thinks that they've done private enterprise development for many years. So what exactly would you do differently; and how would you allocate those resources?

HUBBARD: Well the plan that is outlined in the book is basically to take current spending on economic development aid, not all of AID, but the AID focused on economic development and begin with a 50/50 allocation. So 50 percent going into this new Marshall Fund vehicle. So you would have regional offices, private sector run loans to local businesses.

LEEDS: So you wouldn't eliminate it -- AID? You would change its thrust?

HUBBARD: That's the goal.

LEEDS: Okay.

HUBBARD: It's seldom a political winner to talk about zeros and ones, if a person is getting started and changing the direction.

LEEDS: Right. Okay. Well, we could go on and unfortunately we're at 9:30. I want to first thank the Council. This has been a terrific discussion. I think the Council, if I may say, should do more things on business and development assistance and the role of the private sector in development. It's a great initiative.

I thank our two distinguished panelists and all of you for coming. And we hope we'll do it again. Thank you. (Applause.)

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