How Randomized Control Trials Can Help Solve Africa’s Poverty Trap

 

By: Nathan Jayappa

Understanding how individuals create wealth in developing markets is essential for innovating market-based solutions to reduce poverty. Most economists agree that income earned today greatly influences income earnings tomorrow. If one is able to invest today, his or her earnings should be higher in the future. However, what if one earns so little that savings is not an option, thereby making the earning potential of tomorrow less than today? This is called a poverty trap, and Abijit Banerjee, an MIT economist, defines this occurrence as being “whenever the scope for growing income or wealth at a very fast rate is limited for those who have too little to invest, but expands dramatically for those who can invest a bit more.” The poverty trap can be visualized in this graph featured in the book Poor Economics.

CREDIT: E Duflo, AV Barnejee | SOURCE: Poor Economics

Taking a look at the illustration on S & L Curves, the linear line on both graphs equates to income today being equal to income tomorrow. That is, a direct correlation exists between earning wages from a job today and the potential for earning additional income tomorrow through savings. In a poverty trap scenario, an S-shaped curve represents the function of income as it relates to time.  If an individual’s income falls below this linear line, income regression is the result. This is because the income today is less than that of tomorrow, meaning the individual will never be able to reach the point where income today exceeds income tomorrow. This area is defined as a “poverty trap zone,” and individuals who have an income within this zone are trapped indefinitely with negative savings potential. An individual living in this area has a significantly lower potential of a decent standard of living than those living to the left of this intersection. If income falls to the right of the intersection of these lines, then income tomorrow is significantly higher than income today.

Without a poverty trap, as indicated in the “Inverted L-Shaped Curve” graph, income potential is always higher tomorrow than it is today. In this scenario, individuals are always given the opportunity to make more money tomorrow than they do today. The potential for relatively more income is significantly more at lower income levels, thereby increasing savings potential and subsequent standards of living. Both of these income theories are supported by leading economists throughout the world, with divergent solutions on how to address extreme poverty in sub-Saharan Africa.

Jeffery Sachs, economist and Director of the Earth Institute at Columbia University, believes that sub-Saharan Africa has been the region most prone to getting stuck in a poverty trap. According to Sachs’ paper, Ending Africa’s Poverty Trap,” there are several reasons why sub-Saharan Africa has suffered very slow growth in productivity which leaves the poor remaining impoverished. Burdensomely high transport costs and small market size, low-productivity agriculture, a very high disease burden, adverse geopolitics, and a very slow diffusion of

technology are all attendant economic stressors. His solution to eliminating this trap is through an injection of grant-based aid in the public sector as a tool to augment national savings. This eliminates aid being used strictly for consumption purposes, and places the responsibility on governments to be efficient in determining the best methods of disbursal. Furthermore, Sachs believes that aid needs to be aligned with the ambitious 2015 Millennium Development Goals (MDGs). However, aligning aid programs to the MDGs has many pitfalls, as governments in sub-Saharan Africa are some of the least effective in the world. Furthermore, the MDGs have not influenced African countries to take action, as its universal goals are often times too broad to eradicate poverty on the individual country level.

NYU economist William Easterly takes a critical stance on the reliance of grant-based aid to solve Africa’s poverty trap in a piece for the Brookings Institution entitled “Can the West Save Africa?” In his paper, Easterly argues that aid needs to shift away from a comprehensive approach to solving poverty. He sees efforts such as those seen in the MDGs and international aid campaigns springing from an ill-informed view of Africa as a unified problem with simple solutions. Despite great efforts from outside actors for unified action,  sub-Saharan Africa has mostly failed at achieving the MDGs, with many instances of countries regressing in recent years.  Additionally, outside financial assistance has resulted in tepid progress. U.S. development assistance to sub-Saharan Africa from USAID quadrupled from $1.94 billion in 2002 to $7.08 billion in 2012, with little economic progress resulting from increased funds.

In response to disappointing outcomes and stubborn economic issues, Easterly and Banerjee advocate for the use of Randomized Control Trials (RCTs) to evaluate the most effective deployments of international aid. RCTs allow researchers to understand what works in aid by testing multiple theories before full deployment. Countries, cultures, and socioeconomic factors affect the success of aid, and organizations such as MIT’s J-PAL and the Innovation for Poverty Action can use empirical evidence to measure the effectiveness of particular poverty relief projects. RCTs are conducted much like pharmaceutical trials, where one group is given a remedy (treatment) while the other group is not (control).

The benefit of these tests is that it can quantify long-term results of projects and determine the most effective means to achieving specific outcomes. For example, if Kenya were to set a goal to reduce malaria-related deaths, there are multiple projects to help produce this outcome. Aid organizations can either distribute bed nets for free or they can charge a small fee. Alternatively, they can allocate funds towards subsidizing malaria treatment and education. Discovering the best solution takes behavioral economic evidence to assess which strategy is sustainable in the long-term.

Individual charitable contributions can often times be plagued with the same bureaucratic chaos and reliance on ineffective systems as international aid programs. In 2008, a few Harvard and MIT graduate students decided to use RCTs to determine the most effective way to help the poor in Kenya. Their discovery is counterintuitive to most charitable organizations, groups who typically believe that the best ways to alleviate the poverty trap is through providing the poor with agriculture assistances, education, or healthcare. The graduate students discovered that giving money directly to the poor is a significantly more effective means to reducing long-term poverty than typical charities. The success of this method is seen in GiveDirectly, rated as one of themost effective charities in the world. The poor understand their needs and a direct, one-time injection of cash to help them escape the poverty trap.

Randomized Control Trials are only one of many solutions to help sub-Saharan Africa reduce extreme poverty. With an increasing amount of international aid flowing into its countries, organizations need to look beyond MDGs as a proxy to achieve outcomes. A long-term, sustainable poverty reduction endeavor of any country needs to come from sound policies and adoption by its citizens. International assistance can help to counteract poverty trap around the world. However, sustainable economic growth ultimately resides in the private sector. Grant-based aid evaluated through RCTs should be the first step in helping the poorest of the poor in our world.

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Nathan Jayappa works for The Grassroots Business Fund as a BizCorps Associate. He assists the impact investing fund in deal sourcing and delivery of Business Advisory Services through conducting due diligence, financial modeling, assessing social returns, and strategic planning. Nathan graduated in 2013 with both an MBA from the Tepper School of Business and an MSPPM from the Heinz College at Carnegie Mellon University. He currently resides in Nairobi.

 


 

 
 
 
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