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Sources of external finance.


Private sector finance especially from multinational firms.

Why do MNCs locate in LDCs?

  • Overcome protectionism / tariffs - Increases tax revenue, employment and tech.
  • Cheap labour - Lower costs (wages, taxes) outweigh costs (transport)
  • Legislation / incentives - Lax safety regulations.
  • Provide EPZs - no import / export or corporate tax, subsidises utilities and training
  • Tax avoidance - low corporate tax. Avoid tax on profits - transfer costs and revenues between branches in different countries, to get situation of lowest tax


Development benefits from MNCs

  • Employ / income - ‘Trickle down’ and multiplier from injection into circular flow. Growth of supply firms eg component / material factories.
  • Foreign currency - Inward invest and exports = inflow capital for BoP. If goods sold locally, can replace imports
  • Expertise / tech - Firms / entrepeneurs gain skills - use in industrialisation. MNCs bring in new equipment
  • Tax revenues


Drawbacks of MNCs

  • Income distribution - MNCs lead to monopoly - gain more relative to others
  • Exploitation - Poor safety / environment concern to increase profits. Leads to poor publicity for firm
  • Foreign currency - BUT - reduced by material imports + repatriation of profits.
  • Brain drain - Skilled workers hired by MNCs - don’t contibute to local economy
  • Prevent entrepreneurs - Monopoly power à barriers to entry for local firms
  • Low tax revenues - low rates and tax avoidance
  • Capital intensive production techniques - Means only minimal employment


Government assistance

Must meet two conditions:

  • Donor can’t be motivated by commercial gain
  • Concessions on loans made: eg, lower loans / longer payback times.



  • Multi lateral - joint assistance eg World Bank
  • Bi lateral - Single country. Can be a loan
  • Tied / untied - Tied where conditions are placed. Eg, funding used to finance certain projects or spend on donors exports. 



  • This reduces competition + higher costs for local firms. 
  • Can be used to buy capital equipement à reduces employment
  • Spent inappropiately: Government buildings or put into accounts by corupt MPs


Which is best?

  • Grants better - net transfer of money to LDCs
  • Tied aid served interests of donor more unles it is better at encouraging suitable development projects
  • Needs to be targetted - help those who need it.  Focus on projects to meet basic needs / productivity in agriculture rather than capital investment in industry.



Tend to work on small-scale projects to meet local needs - water and schools

More governments give aid by NGOs - US has 50% of aid by NGO - Due to effectiveness, but also vote grabbing.  Recognise long-term interests of countries is for increased global trade.


The IMF and IBRD (World Bank).

The IMF (International Monetary Fund) and the World Bank are international agencies that effectively act like banks to Governments.


The World Bank (otherwise known as the IBRD, the International Bank for Reconstruction and Development) was set up after the Second World War to provide aid to war torn Europe. Since then it has provided loans to third world countries for development purposes.


The IMF however is not focused solely on aid and development in third world countries. Their main role is to maintain a stable economic international trading environment, especially by maintaining a stable system of exchange rates. The IMF offers funds to countries who’s balance of payments is in the red, (and so will be experiencing exchange rates problems) in order to rectify their balance of payments problems.


When 3rd world countries seek debt relief from the 1st world, or multi-lateral aid agencies like the World Bank, conditions are often imposed upon the 3rd world country. These conditions are known as ‘Structural adjustment programmes’. A structural adjustment programme is a plan drawn up by the IMF or World Bank to bring about economic recovery in the recipient country.


Structural adjustment policies.

The simple break down of a structural adjustment programme is as such:


·        The IMF lends the country’s central bank money in order to maintain its foreign currency reserves. This allows the country to go on importing and exporting.

·        In order to obtain the foreign currency to repay debt, a third world country must either increase its exports or lessen its imports (essentially better its balance of payments).

·        The government in the third world country must increase taxes and cut its spending. This is because the majority of money owed by a third world country is owed by that country’s government.

·        The IMF insists on a wide range of measures to be taken. Some of those include removing import controls, privatisation, deregulation of markets, and cutting of subsidies like food subsidies.


Structural adjustment programmes are not very popular in 3rd world countries, as they do not initially seem to provide much good. Many countries experience falls in GDP, and can see their growth rate drop immediately.  Economic development can often suffer, with reduced food subsidies leading to higher food prices, and cuts in government spending leading to unemployment. These same cuts in government spending can also impact upon education, and without investment in education, long term economic growth is likely to suffer.


While there are many bad aspects to structural adjustment, supporters point out that it works better than leaving a country be, where it could put itself in a worse state of lower growth and lower levels of development etc.


Whilst structural adjustment may put the economy into an initial downturn, it will often leave it in a better position for growing and expanding in the long run.



E-mail Steve Margetts