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Will reporting rule changes agreed by OECD committee undermine the credibility of aid?

Ministers and senior officials of developed countries agreed major changes today to what can be counted as Official Development Assistance (ODA, or ‘aid’), opening the door for greater use of aid to subsidise private companies. A push by some states for greater aid spending on military and security costs was partly rebuffed, after strong campaigning from civil society organisations, while discussions on how to reduce the huge amount of foreign aid being diverted to cover spending in donor countries to support refugees will culminate later this year.

The changes to the rules governing what can be counted as ODA were agreed after a two day high-level meeting of the Organisation for Economic Cooperation and Development (OECD)’s Development Assistance Committee (DAC), a grouping of donor countries which has set aid rules since 1961. While the committee discussed whether to improve their transparency and accountability in the future, with a high level panel set to look into this, these rules were set without the participation of the poorer developing countries that will be affected by them.

Aid subsidies to private companies

The committee agreed a set of ‘principles’ to govern the way aid can be used to subsidise private companies, known as using ‘private sector instruments.’ These instruments include co-financing, public guarantees for private investors, or direct purchase of equity in private companies, for example. Eurodad has warned that international private finance comes with risks as well as rewards, and so the objective should not necessarily be more international private finance, but rather better private finance. However, the committee’s communiqué makes it clear that their aim was to remove “disincentives in the use” of private sector instruments. The specific changes to the rules, contained in an annex to the communiqué, add an additional, more balanced aim to “promote longer-term support to the private sector where needed, ensuring efficient use of scarce public funds and targeting projects with high expected social returns, without creating market distortions.”

The principles will mean that only official (donor government) expenditure will be counted as ODA, but the private finance that this official expenditure subsidises “will be tracked in the broader measures on flows for sustainable development (TOSSD, which the DAC is developing and which Eurodad has previously critiqued).

However, donors will be allowed significant leeway in deciding how to count their private sector subsidies, and how much to count as ODA. The new principles mean donors can choose whether to count their contribution either at the time they give money to an institution or fund that will subsidise private companies (the ‘institutional approach’), or to count each subsidy that the vehicle subsequently gives to a private company (the ‘instrument-specific approach’).

The new principles try to prevent ODA from being used to subsidise purely commercial operations, by insisting that it must provide “finance which is additional” to what the private financial sector would have provided anyway. Measuring this ‘additionality’ is a very complex and contested topic, however, and many donors currently just assume it to be the case. The DAC proposes to come up with a definition of what it means by additionality at its senior level meeting later this year. In addition, principles suggest that the ‘vehicle providing [the] private sector instrument should be assessed according to how much it has the development of developing countries as “the main and primary objective of its operations”, though there is no indication as to what an acceptable level would be, and a lack of clarity on what happens when a vehicle only has a proportion of its activities with a development objective. Again, this principle will be clarified later in the year.

The most complicated, and potentially most dangerous part of the new rules relate to how much can be counted as ODA when the public donor money is ‘blended’ with private money or used to subsidise a loan. Again, the detail of the rules here will be set out later this year, but the document recognises that using existing rules “could incentivize unnecessary subsidization of private finance.” The issue here is the suggestion that as “financing the private sector is generally riskier than the official sector” then “a risk premium in the discount rate” would be needed that is “additional to the already agreed sovereign risk premia”. In basic terms, this means, for example, that donors will be allowed to count more ODA for a subsidised loan to a private company than they would for the same sized loan to a government.

Perhaps the biggest loophole is the decision to allow donors to count public guarantees as ODA. Such guarantees occur when a public entity agrees to pay back a private investor if their investment fails (typically for a limited set of circumstances). Instead of taking the obvious approach and only counting money that is actually paid out on these guarantees as ODA, the DAC has set itself the difficult task of working out a different system, based on estimating the degree of risk taken and the operating costs of each guarantee, and then counting some (imaginary) amount of money as ODA.

Another thorny issue had been how to treat the money that donors often earn when they invest through private sector instruments, which ought to be counted as negative ODA. Some Donors had tried to insist that this should be limited, but they appear to have been rebuffed, with the principles saying that “any dividends or profits on [private sector instruments] paid back to the government will count as negative ODA.”

As is evident from the above attempt to summarise the new principles, the DAC has opened up huge, complicated and controversial new areas of donor expenditure as ODA, with enormous potential for differences of approaches between donors. This means that work the DAC secretariat will lead during the rest of the year to put greater clarity behind the agreed principles will be extremely important.

One clear risk is that a portion of the large funds that donors invest to subsidise their own companies’ overseas investments – through export credit agencies or publicly owned banks for example – could be counted as ODA, both massively inflating ODA, and undermining its developmental purpose. This is despite the fact that, as Eurodad has pointed out, one of the most effective ways to incentivise private investment is through public expenditure on, for example, the infrastructure, and the educated and healthy workforce that the private sector needs. By trying to incentivise greater use of ODA to subsidise the private sector, the new rules will inevitably reduce the amount of ODA that can be used for these traditional public sector investments, so their overall impact may be to actually reduce the incentives for private investment in developing countries.

This move to use ODA to subsidise donors’ own firms is not, sadly, new. Eurodad has long campaigned for an end to the ‘tying’ of aid expenditure to using firms from donor companies – a practice that is still prevalent, and greatly increases costs, while undermining the developmental purpose of aid. The new rules suggest it is high time this issue was brought back onto the political agenda, if the risk of a wave of donors using even more aid to subsidise their own companies is to be avoided.

Using aid for military and security expenditure

Efforts by some countries to greatly expand the loopholes that allow aid to be spent on military and security expenditure were partly held off, thanks to strong pressure from civil society groups, and a determined rearguard from some donors, particularly Sweden.

But Sara Tesorieri, Deputy Head of Eurodad member Oxfam’s EU office, said: “We’ve embarked on a very slippery slope. It is hugely disappointing to see governments taking steps to twist aid into a tool to advance their own security agendas. Measures to prevent terrorism should be a key security task paid from security budgets, not an add-on for which governments raid development aid coffers.

"Governments say they have spelled out a series of safeguards to frame the use of aid for security-related activities. However, they have to make sure there is a mechanism ensuring that these will be enforced and properly monitored on the ground.”

The old rules said that “financing of military equipment or services is generally excluded from ODA reporting”. The new rules do not make such a clear statement, but they maintain the same two exceptions to this rule – the use of military to provide humanitarian aid or perform development services, with some additional detail as to what this means. They also maintain the old restrictions on the use of aid to support the police, again with a little more detail.

The rules on supporting the recipient country’s security sector also remain little changed, with permission for donors to use ODA to improve oversight and reform of the sector (which despite the limits imposed by the rules, can remain a controversial topic) and also for generally accepted purposes such as removal of landmines or the prevention of the recruitment of child soldiers.

The main change to the rules is a new section on ‘preventing violent extremism’. While activities focused on “perceived threats to the donor country” are excluded, a limited number of activities that are “led by partner countries [where the] purpose is primarily developmental” are allowed. Despite the careful wording, and efforts to limit the scope of this new section, how donors use it will need to be monitored very closely, given that the nature of what counts as ‘extremism’ is a highly political topic.

Spending aid at home: refugee costs

Finally, the donor countries of the DAC did not – yet – heed the call of a coalition of civil society organisations, and tens of thousands of their own citizens, to prevent the diversion of ODA to fill domestic budget gaps caused by the refugee crisis, by removing this loophole in the ODA rules. Instead, they agreed to try to clarify these rules, which the DAC estimates will allow $10 billion of ODA to be spent in donor countries in 2016. All eyes will be on the “clear, transparent, and inclusive process” they have promised on this issue, and the public campaign to ensure that aid is spent to support the poorest people and countries, of which Eurodad is a part, will gather momentum.