The Role of Financial Aids of European Union in Developing Countries. Corresponding author

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1 The Role of Financial Aids of European Union in Developing Countries Corresponding author Khaldoun M. Al-Qaisi Assistant Prof of finance, Faculty of Business, Finance Department Amman Arab University, Jordan Address: P.O.BOX: 1825, Amman (11821) Jordan Co-author Dr. Mohammad Fawzi Shubita Assistant Professor, Accounting Department Amman Arab University, Amman Jordan PO Box Code Amman Jordan Abstract The objective of this research is to investigate the effect of European Union on the economics of developing countries. The paper explains the effect of the European aids on the development and the gross domestic product of these countries. The research explained Jordan as a case study. The research introduces a group of recommendations. Keywords: Financial aids, European Union, Developing Countries, Economical development. 1. Introduction Korsgard and Bjarine (2008) studied the architecture of financial flows to developing countries. They found that although official development assistance (financial aid) seems as a relatively small inflow compared to remittances and furthermore equals DI on a global scale, official development assistance (financial aid) does account for a great part of the financial flows when it comes to Sub Saharan Africa and the LDCs. In other words, official development assistance (financial aid) matters as a source for development in many countries. Remittances are important in all regions, although to a lesser extent in Sub Saharan Africa. Most studies show that remittances can play a role in poverty reduction. However, in many instances, remittances are mainly used for consumption and not for direct productive investments. Despite that, some regional African studies show that households, which receive remittances, have a higher living standard and a higher level of education. Other studies from Africa do however question this by suggesting that households that receive remittances are not better off than those households who do not receive remittances. In conflict and post-conflict countries, remittances COPY RIGHT 2013 Institute of Interdisciplinary Business Research 375

2 could be used for non-developing purposes, including financing the conflict. Remittances are often sent from migrant workers, and as it takes some income to be able to go abroad, there are indications that better-off families have greater access to remittances.12 Considering these analyses, a relevant question is in what way official development assistance (financial aid) could work on giving the existing high flow of remittances a greater development impact. DI does not flow to Sub Saharan Africa and especially not to LDCs, but to middle income countries. It is believed by many that DI contribute to development while some point out that for investments to have a development impact it requires e.g. use of local sub suppliers and local labor. If this is true it will point towards using official development assistance (financial aid) to a higher degree to activities that can help countries attract more DI and along side of this, activities that strengthen the development impacts of DI and an equal distribution of the benefits. official development assistance (financial aid) matters as a source for development in many countries especially in Sub Saharan Africa and LDCs. Remittances and DI are significant flows, but cannot substitute for official development assistance (financial aid). 2. Objectives The objectives of this paper is to 1. Show the importance financial aids for the developing country. 2. Show the amount of aids received by developing countries through EU. 3. The role of aids in the development of developing countries. 3. Statement of Importance Financial aid is considered one of the important subjects that affect the development of developing countries. Many developing countries depend on developed countries in providing enough money for development purposes. The importance of this research appears to show the extent that these countries depend on such aids and the role of these aids in the development of process. The research will explain the form of aids introduced for these countries. 4. Research questions To accomplish the objectives of this research, the following questions will be answered: 1. What is the role of EU financial aids in the development of developing countries? 2. What is the distribution geographically of financial aids introduced by EU? 3. What are the facets of expending these financial aids? 5. Hypothesis The research will rely on three hypothesis. These hypothesis are: 1. There is strong relationship between the EU financial aids and the development process of developing countries. 2. There is a strong relationship between the amount of financial aids and the geography of the country. 3. There is strong relationship between the amount of financial aids and the facets of expenses for development. COPY RIGHT 2013 Institute of Interdisciplinary Business Research 376

3 6. Limitations There are many limitations faced the preparation of this paper summarized in the following: 1. The lack of information explains exactly the facets of expensing EU financial aids by developing countries. 2. The distribution of financial aids by regions and not by country. 7. Methodology This research was depending mainly on the published data in papers and web sites related to financial aids introduced to the developing countries. The paper collected the important information related to the sub-titles discussed in this research to collect information about it. 8. Rationale This research will help in introducing the real effect of financial aids on developing countries and its role in development process which is considered important subject reflects the extent of reliability of these countries on others in its development process. 9. Results 9.1 Forms of financial aids Official development assistance (financial aid) is subdivided into grants and loans, with statistics from OECD s Development Assistance Committee (DAC) as the source. Other official flows cover transactions, which are not primarily aimed at development or have a grant element of less than 25 per cent. Other official flows could for instance be grants to developing countries for essentially commercial purposes, official direct export credits, or military debt relief. Direct investment covers direct investments made in an economy other than that of the investor with a long-term relationship between the investor and the recipient company. Direct investment covers both initial investments and all subsequent investments - also among affiliated enterprises, both incorporated and unincorporated. The data used are from OECD (2008). The data for BEE are DAC figures covering both bank and non-bank bonds, equities and export credits. World Bank data (2006) for remittances are used. These have been collected through the balance of payments framework covering worker s remittances, compensation of employees and migrant transfers. Many transactions of remittances are made unofficially through private channels, for instance visits. Gifts and goods are not included. The World Bank estimates that the figures could be 40 to 60% higher if unofficial remittances were included. Others expect the unofficial remittances to make up more than 70 % of the total remittances (Hansen and Thygesen, 2007). COPY RIGHT 2013 Institute of Interdisciplinary Business Research 377

4 Consequently, the official data on remittances used in this paper should be considered as a rough estimate only. 9.2 Facets of expending financial aids After World War II and until the early 1990s, the main source of external finance for developing countries was official development assistance provided by the governments of high-income countries in the form of food aid, emergency relief, technical assistance, peace-keeping, efforts, and financing for construction projects. Donor countries are motivated by the desire to support their political allies and trade partners, to expand the markets for their exports, and to reduce poverty and military conflicts threatening international security. After the breakup of the Soviet Union, former centrally planned economies also started to receive official assistance, aimed primarily at supporting market reforms. Table 1 shows the amounts of net official assistance provided to developing and transition countries by the member countries of the Organization for Economic Cooperation and Development (OECD) in On average, the donor countries in Table 1 spend about one-third of 1 percent of their combined gross domestic product (GDP) on official development assistance. Official assistance to developing and transition countries has three main components: Grants, which do not have to be repaid. Confessional loans, which have to be repaid but at lower interest rates and over longer periods than commercial bank loans. Contributions to multilateral institutions promoting development, such as the United Nations, International Monetary Fund, World Bank, and regional development banks (Asian Development Bank, African Development Bank, Inter-American Development Bank). Grants account for per cent of the official assistance of most donors. 9.3 European Union's Assistance to Jordan The European Union's assistance to Jordan has so far reached a total of 458 million in community and macroeconomic assistance ( 254 million under MEDA I and until now 204 million under MEDA II). The main priorities of EU cooperation with Jordan, as set out in the Country Strategy Paper adopted by the European Commission in 2001, are: Trade enhancement and institutional building and regional integration Stable macro-economic framework and economic reforms Social reforms and human resources development Development of infrastructures including regional cooperation The National Indicative Program (NIP) for Jordan set out programs for which the total funding amounted to 142 million during this period. The National Indicative Program for COPY RIGHT 2013 Institute of Interdisciplinary Business Research 378

5 , signed during the World Economic Forum at the Dead Sea on May , provides a 110 million assistance to support (a) democracy, human rights and good governance ( 5 million), (b) the preparation of the Neighborhood Policy and implementation of the Association Agreement ( 55 million), (c) the social sector ( 42 million), (d) the development of the knowledge society ( 8 million). An additional grant of 30 million euros was given to Jordan in November 2004 to help the Kingdom alleviate poverty and develop underprivileged areas. European assistance to Jordan is not limited to grants, the volume of the European Investment Bank (EIB) lending to Jordan during the period amounted to million intended among others for the potash and phosphate mining industry, the water supply network of Greater Amman, the Amman wastewater treatment, and the Aqaba port. Furthermore, Jordan is entitled to benefit from the Facility for Euro-Mediterranean Investment and Partnership (FEMIP) designed to fund technical assistance activities and to improve the economic and social investment climate in the Mediterranean countries. 9.4 European development finance institutions The European Investment Bank (EIB) is responsible for implementing the financial components of agreements concluded under European development aid and cooperation policies. Among others it operates in 77 ACP countries. The Bank has been a development partner - as the development bank of the European Union - in most ACP countries for some 30 years, in many for 40 years. The EIB handles also the lending to ALA countries (Asian and Latin American countries) and for the period from to it has EUR million available. The funds are utilized to finance investments in countries signatories to cooperation agreements with the EU. The EIB supports projects in infrastructure, industry, agro-industry, mining and services, which additionally emphasize the improvement of protection of the environment. Each project is assessed by financial institutions, which assume the credit risk and set the loan conditions for the final beneficiary according to the criteria agreed with the EIB. The EIB proffers various financial services to support projects, depending on eligibility and project category. Global loans based on the proceeds for small or medium-scale investment projects meeting the Bank s criteria are available to banks, leasing companies or financial institutions. Venture capital funds are supposed to strengthen the equity base of high-technology SMEs and those with strong growth potential. Moreover, direct loans are offered to promoters in both the private and public sector. The Structured Finance Facility was established to give loans to projects with high-risk profiles and to pursue EIB s equity financing and guarantee operations in favour of large-scale infrastructure schemes. The fourteen European Development Finance Institutions (EDFIs) focus on private sector development in developing and transition countries. The EDFI members provide long-term financing to companies and financial institutions in developing countries, often in co-operation with European enterprises investing in emerging markets. The EFP (European financing partners) fund of the EDFI grants funds to private sector projects in the ACP States proposed by COPY RIGHT 2013 Institute of Interdisciplinary Business Research 379

6 any of the ten EDFI shareholders. EFP finances up to 75% of such a proposal up to a maximum of 25 million, while the remaining 25% is financed by the EDFI member presenting the proposal. 9.5 EU funding for ACP countries The European Development Fund (EDF) is the main instrument for Community aid for development cooperation in the ACP countries and the Overseas Countries and Territories (OCT). Its goal is to promote and advance the economic, cultural and social development of these states with a view to contributing to peace and security and to endorsing a stable and democratic political environment. The EDF does not come under the general Community budget, but is funded by the Member States, covered by its own financial rules and managed by a specific committee. The budget is set by the Member States in the Council, however, it is supervised by the European Commission and other institutions established under the partnership. The EDF consists of several instruments, including grants, risk capital and loans to the private sector. European Development Funds generally have a life-span of at least five years and new moneys, strategies and priorities are formulated with each new agreement. The ninth European Development Fund has come into effect with the Cotonou Agreement. The Cotonou Agreement is a global and exemplary Agreement, introducing radical changes and ambitious objectives while preserving the 'acquis' of 25 years of ACP-EU cooperation. Under the ninth EDF, which is included in the Cotonou Agreement, 13.5 billion have been allocated for funding. Additionally, 9.9 billion were included from balances remaining from previous EDFs and the European Investment Bank committed to fund projects in ACP countries from its own resources up to EUR 1.7 billion for the next five years. Of the 13.5 billion 2.2 will be managed under the Investment Facility by the EIB. The Investment Facility, which is risk-sharing, replaces the former riskcapital funds of the Member States of the EU, which were also managed by the EIB. The Investment Facility will concentrate on the private sector, as the ultimate motor and catalyst behind poverty reduction and its eventual eradication, the core objectives of the Cotonou Agreement. The Investment Facility will be self-sustaining by obtaining re-flows and remuneration from the projects. The EDF offers financial resources to the Center for the Development of Enterprise, which gives lending support to the various types of operators that make up the private sector in the ACP countries. For example, it grants subsidies to SMEs to meet part of the costs of support and advisory services. Further it manages Pro invest, whose key objective is to promote investment and technology flows to enterprises operating within key sectors in the ACP States. Pro invest follows three main activities. First of all it enhances capacity building of private intermediaries by supporting and strengthening the work of professional organizations, promotion agencies, financial institutions and consultants associations whose activities contribute to the improvement of the environment for business, investment and the development of companies. COPY RIGHT 2013 Institute of Interdisciplinary Business Research 380

7 Under this activity Pro invest operates the TRINNEX facility aiming at providing capacity building assistance to private sector intermediary organisations in ACP countries. The purpose of the TRINNEX Facility is to strengthen and enhance the private sector involvement in the negotiation of Economic Partnership Agreements (EPAs) between the ACP and the European Union. The second activity is the key sector support. The programme brings potential partners together to conclude North-South and South-South partnership agreements between enterprises in key economic sectors which reflect ACP regional priorities. Finally, Pro invest provides individual company support to enterprise projects arising from Pro invest partnership initiatives. 9.6 Financial instruments In order to assist the countries that have applied to become members of the European Union to carry out the reforms required for membership and to equip themselves to benefit from EU funds on accession, the Union provides financial assistance as part of its Pre-Accession Strategy. Phare has been set up to enable candidate countries to meet the criteria for membership of the EU. This includes finance for economic development administrative reconfiguration, social change and legislative work. The projects focus lies on infrastructure financing, institution building and the promotion of economic and social cohesion. The Ipsa programme is responsible for the co-financing of investment projects in the transport and environment sectors. Sapard provides Community support for agriculture and rural development for the pre-accession period in order to foster the sustainable adaptation of the candidate countries to the acquires communautaire concerning the common agricultural policy. Tacis is a technical assistance programme which came into being in The programme supports countries of Eastern Europe and Central Asia to move from a transition economy to a market-based economy and to develop a democratic society. From 2000 onwards a new regulation allocated million of funding to projects until the end of The projects are to focus on certain key areas, namely: support for institutional, legal and administrative reform, support for the private sector and assistance for economic development, support for addressing the social consequences of transition, development of infrastructure networks, nuclear safety, promotion of environmental protection and management of natural resources and development of the rural economy. The programme is multi-faceted and over time a number of special sub programmes have been developed. CARDS (Community Assistance for Reconstruction, Development and Stabilisation) was established in 2000 to streamline aid to the Western Balkans. The programmes wider objective is to enhance the participation of the countries of the Western Balkans (Albania, Bosnia and Herzegovina, Croatia, Serbia, Montenegro and the former Yugoslav Republic of Macedonia) in the Stabilisation and Association Process (SAp). The Stabilisation and Association process is the COPY RIGHT 2013 Institute of Interdisciplinary Business Research 381

8 basis of the European Union's policy towards the region. Closer association with the European Union is facilitated through the promotion of stability within the region. A key element of the SAp, for countries that have made sufficient progress in terms of political and economic reform and administrative capacity, is a formal contractual relationship with EU in the form of a Stabilisation and Association Agreement. The SAp is designed to help each country to progress at its own pace towards greater European integration. 4.6 billion will be provided during the period 2000 to 2006 for investment, institution-building, and other measures. The MEDA programme is the main financial instrument for the implementation of the Euro- Mediterranean Partnership, which aims to establish an area of dialogue, exchange and cooperation guaranteeing peace, stability and prosperity; strengthen the political dialogue, development of economic and financial co-operation, social, cultural and human dimension, and by 2010 establish a free-trade area. The Programme provides technical and financial support measures to be an adjunct to the reform of economic and social structures in the Mediterranean partner countries (Morocco, Algeria, Tunisia (Maghreb); Egypt, Israel, Jordan, the Palestinian Authority, Lebanon, Syria (Mashrek); Turkey, Cyprus and Malta). MEDA II referring to the 1995 Barcelona Declaration set up the funding scheme for the period by allocating million. MEDA programmes take place at the bilateral and regional level. At the bilateral level the priorities for MEDA are support to economic transition and strengthening the socioeconomic balance, whereas at the regional programmes cover the Barcelona Declaration. The European Union's co-operation with countries in Asia and Latin America is governed by the ALA regulation. Financial and technical assistance is provided in the fields of environment, intra-regional trade, the strengthening of regional institutions, regional integration, communications, research, training, rural development, food security and energy. The Communication on a new partnership with South East Asia adopted in July 2003 identifies the support to regional stability through the ASEAN Regional Forum (ARF) and the Asia-Europe Meeting (ASEM) as a first strategic priority. The application of regional or bilateral approaches depends on the nature of the issues that are being addressed. Regional approaches will be chosen when economies of scale are evident for support to private sector, promoting university networks, etc., or when the chances of success are greater within a regional or sub-regional frame for environment, fight against drugs, communicable diseases, and fight against terrorism. 9.7 Conclusions Most of third world countries (developing countries0 with) poor natural resources depend on financial aids of foreign developed countries for development processes. African countries are major group that depend on European aids to improve their development processes. Some Asian countries are considered the second aids receiving countries. Most of these aids came to these COPY RIGHT 2013 Institute of Interdisciplinary Business Research 382

9 countries as grants or loans. Jordan like many other developing countries lacks the natural resources, so it relies on foreign financial aids from European countries for the developments processes. COPY RIGHT 2013 Institute of Interdisciplinary Business Research 383

10 References OECD, 2006/2008: Geographical Distribution of Financial Flows to Developing Countries World Bank, 2006: Global Economic Prospects 2006 Hansen, P. and Thygesen, T., 2007: Remitter Finansiering af udvikling in Afrika?, DIIS Jordan and European Countries 9/1/2009. COPY RIGHT 2013 Institute of Interdisciplinary Business Research 384