35. Memorandum From the Assistant Secretary of the Treasury for International Affairs (Petty) to Secretary of the Treasury Kennedy 1
What Should Be our Policy Toward Aid Tying?
- U.S. foreign economic assistance was “tied” to U.S. procurement beginning in 1959, originally as a method of offsetting lagging Congressional support of the program. Presentationally, it was argued that tying almost totally eliminated the balance of payments costs of foreign aid: by providing real resources rather than financial resources. In addition we benefited our exporters while accomplishing the development task and the procedure made our aid funds only marginally less efficient—but this was a cost deemed necessary to assure sustained adequate levels of aid appropriations.
- Both inside and outside the Executive branch question arose on the validity of the claim that tying aid virtually removed the balance of payments costs of the program. This generated pressures to ensure “additionality,” i.e. that aid financed exports were additional to goods that aid recipient countries would have purchased from the U.S. commercially in any event. The techniques to bring about “additionality” varied from country to country but they rapidly led to resentment and the development of political problems with developing countries.
- President Nixon’s decision last June to eliminate the “additionality” requirements under our foreign aid program was prompted by a desire to eliminate this political lightning rod from attracting anti-U.S. sentiment in the aid countries. This had the effect of reducing the effectiveness of aid tying. Since that time the tying rules have been further relaxed in the case of Latin America. Henceforth U.S. aid dollars lent to finance imports may be used to procure commodities in either the United States or in Latin American countries. The latter is being given a further advantage of qualifying for such procurement even when the imported component of the item being sold amounts to fifty percent (for U.S. suppliers, only ten percent imported component is normally allowed). The President also decided that tying restrictions be lifted completely for U.S. aid dollars going to Latin America to finance local costs. He decided a similar liberalization on tying of local cost financing [Page 89]by the Inter-American Development Bank’s Fund for Special Operations.
- What does all this add up to?
- —With the end of additionality the effectiveness of tying is questionable.
- —Removal of the Special Letter of Credit in connection with local cost financing in Latin America by AID and the FSO has the effect of untying for “world-wide” procurement since recipient countries will now be receiving U.S. dollars unrestricted as to subsequent use.
- —While the measure is now a regional preference for Latin America, experience with the elimination of “additionality” and evidence of already mounting pressures for partial or full untying elsewhere in the less developed world suggest that restricting the new policy to Latin America alone is not likely to be sustainable.
- —There would be a further balance of payments cost to untying in Asia and Africa. Aid constitutes a higher percentage of imports in such countries as India and Pakistan and our share of commercial trade is lower than in Latin America.
- Determining the “true” balance of payments effects of aid tying has been and continues to be a statistical playground. Past estimates within the Executive Branch of the “cost” of a given tying (or untying) measure have varied widely, with State/AID generally on the low or “de minimis” side, Commerce generally on the high side and Treasury generally in a tentative middle posture. As evidence of this, in calculations last year of the “benefits” from the additionality program, State/AID estimated $35 million world-wide, Commerce estimated upwards of $350 million and Treasury estimated something in excess of $125 million. For Latin America hemispheric untying, Treasury estimated $200 million balance of payments costs. The NSC used a $50 million estimate. From there on, the costs were “nibbled” away by arguments about de minimis effects.
- Perhaps a better way of looking at the costs of untying is in the context of what we are doing relative to other aid giving countries. If, for example, other donor countries untied their aid simultaneously with the untying of U.S. aid, we would presumably pick up some additional procurement under their programs. However, other programs in the aggregate amount to less than the U.S. program. Nevertheless, their aggregate share of exports to the LDCs greatly exceeds that of the U.S. Consequently, what the U.S. balance of payments would gain from untying by other donors would fall far short of what would be lost through the untying of the U.S. program. Specifically, with the U.S. providing roughly 50 percent of total aid to LDCs and providing only 25 percent of total exports to LDCs, with complete worldwide untying we would stand to incur a balance of payments loss in the aggregate, of at least one half of the total amount of our aid program.
- It is clear to me that the tying of aid is on the way out, and I think it is desirable that this is the case. This is a form of selective control that is not in keeping with our philosophy, and it is certainly not the most efficient form of economic assistance. However, many countries tie, and it is in keeping with our leadership role that if we go to untying beyond Latin America that we do it in a “burden sharing” manner in which all other donor countries also untie. However, further unilateral untying by the United States would jeopardize our negotiating position in getting other donors to join us. Consequently, I would recommend that the National Advisory Council recommend to the President an initiative to be taken by the United States at the OECD Ministerial Meeting in May whereby the United States would propose that we negotiate—probably through DAC, the Development Assistance Committee—the multilateral untying of bilateral assistance by donor countries. The NAC would also consider how far a multilateral proposal would go toward complete aid untying. Many countries are as attached to aid tying as we have been. They will not quickly accede to this suggestion; but by making this gesture, the U.S. would get the immediate political benefits with the LDCs; and we will move the developed countries along toward this desirable objective. It would permit us in the meantime to discontinue further unilateral untying—so that the time framework would be more in pace with our removal of selective controls over direct investment and banks. Right now we run the danger of removing most government balance of payments controls and still being left with the Commerce and Fed controls.
Recommendation: That we be authorized to commence with an NAC Alternates Meeting whereby a specific proposal to the President is developed to negotiate multi-laterally the untying of bi-lateral (and conceivably multi-lateral) aid, which would be submitted to an NAC Principals’ Meeting as soon as possible. This timing would provide adequate preparation for the May ministerial conference.