A Capital Story

he dramatic growth in private capital flows to lowincome countries (LICs) around the world over the past quarter century is one of the good news stories of development. Capital flows and capital-like flows, such as aid grants and remittances that can substitute for capital flows, are at historic highs, spearheaded by a sharp rise in foreign direct investment in LIC economies. While government-to-government grants and loans to these developing countries have grown only in line with the rise in LIC GDP, private-source inflows have quadrupled relative to LIC GDP since the 1980s, and foreign direct investment (FDI) has risen even more dramatically, helping to spur development. The rise is taking place at a time when promised large increases in official aid to poor countries have so far failed to materialize, and the UN Millennium Development Goals—which include reducing poverty and improving living standards—remain stubbornly out of reach. The LICs are a diverse group united by little other than low per capita incomes. India is the biggest, with more than a billion people and a 2006 GDP of $772 billion. It is classed with Brazil, russia, and China as one of the “BrIC” major emerging markets. The littlest is Dominica, with about 70,000 people and a GDP of $0.02 billion. The LICs can be found around the globe: in Africa, Asia, the Caribbean, eastern europe, Latin America, and the south Pacific. Capital flows to LICs are a poorly understood and poorly researched topic. Most of the attention so far on international capital flows into developing economies has focused on the large emerging markets, in part because LICs account for a relatively small share (5–20 percent) of developing country capital inflows in most asset and liability categories. And the work that has been done specifically on LICs has focused on capital flight from these countries and on official flows, with a heavy emphasis on official debt and official debt forgiveness. But new work by the IMF attempts to remedy this omission by analyzing trends in capital and capital-like flows to LICs (Dorsey and others, 2008; see box). This article looks at the story behind the numbers relating to this dramatic change in financing for the world’s poorer countries and examines whether there are downsides to this trend.