As Summer Heats Up, Does MCC Need a Bigger Pool?

Or how a new bill would enable the Millennium Challenge Corporation (MCC) to do more to help the world’s poor.

MCC’s singular mission of tackling poverty through economic growth and its unique, data-driven approach to investment have long held bipartisan appeal. But MCC may be best known for partnering with lower-income countries that are relatively well-governed. In fact, by statute, MCC is only allowed to work in low- and lower-middle-income countries. New bipartisan legislation seeks to change that, creating a larger pool of potential country partners—while retaining the agency’s patented screening process and partnership model.

A quick note on how MCC picks partners

• The agency’s initial candidate pool starts with countries classified by the World Bank as low-income and lower-middle-income based on their GNI per capita. (Statutory prohibitions rule out a set of countries that would otherwise qualify on the basis of income, mostly due to concerns about human rights, including trafficking.)
• A set of quantitative, third-party indicators that assess policy performance comprise MCC’s country scorecards. Candidate countries that score better than half of their income-based peer group (or above an absolute threshold for some indicators) on the majority of the indicators and “hard hurdles” associated with democratic rights and control of corruption are considered to have passed.
• MCC’s board considers scorecard performance and supplemental information to assess a country’s partnership potential. The expected impact of planned investments on poverty, and the agency’s overall resources, also factor into the board’s decision to select a country as eligible for compact development.
• Countries that fall short in some areas but demonstrate a positive policy performance trajectory may be selected for a smaller threshold program agreement.

It’s due in part to this selectivity that MCC has remained a relatively small player in the US foreign policy landscape. And yet, with no shortage of global challenges—compounded by the COVID-19 pandemic and high commodity prices—MCC, and key stakeholders, have been reflecting on how the agency’s distinctive model can be deployed to achieve greater development impact.

What MCC brings to the table

MCC’s model boasts several unique features worth highlighting.

Sizable, multiyear grant financing

MCC’s signature program is a five-year grant agreement known as a compact. The relatively long-term and large-scale nature of MCC’s investments offers clear benefits, particularly when it comes to supporting critical infrastructure projects in partner countries—as our colleague has pointed out.

Data-driven decision-making

In the early stages of compact development, MCC works alongside an eligible country to identify appropriate investments, analyzing binding constraints to growth and using that assessment to help determine how best to facilitate poverty reduction. From there, even more work goes into defining the contours of a project worthy of MCC investment, including cost-benefit analysis (MCC investments must achieve at least a 10 percent economic rate of return).

Country-led implementation

Another distinct feature of MCC’s model is what’s known as the Millennium Challenge Account—an accountable entity typically made up of representatives from in and outside of government—established in-country to support compact management and oversight. This means that in addition to being engaged in shaping the compact investment, the country partner is central to implementation.

Partner accountability

And, as part of a partnership agreement, MCC requires countries to contribute resources (financial or in-kind) and commit to policy and institutional reforms critical to seeing the investments deliver. If these conditions aren’t met, MCC has shown its willingness to withhold or cancel funding. And the agency has gone so far as to terminate compact agreements when a partner country backslides significantly on its commitment to good governance and upholding rights—consistent with the scorecard.

Commitment to evaluation and learning

Another mark in MCC’s favor is the agency’s strong commitment to evaluation and learning. All of the agency’s projects are independently evaluated—and a significant share are subject to rigorous impact evaluations. And MCC consistently ranks among the most transparent aid agencies in the world.

The challenge with MCC’s current candidate pool

Since MCC was established in 2004, countries around the world have gotten wealthier. That’s a good thing, but it means MCC’s starting pool of potential partners is shrinking; in FY22, 81 countries met MCC income requirements before accounting for statutory prohibitions.

Figure 1. The number of low-income and lower-middle-income countries has dwindled over time

A strict cut-off at $4,255 GNI per capita leaves out countries—and more importantly vulnerable populations—that might benefit from MCC investment. As we’ve noted, and our colleagues have explored at greater length, just because a country achieves upper-middle-income status doesn’t mean it stops being vulnerable to economic shocks. Absolute poverty and obstacles to inclusive development can persist even after countries cross the World Bank’s upper-middle-income threshold.

As described above, candidacy based on income is just the starting point for countries looking to partner with MCC. And the agency’s options continue to narrow through the selection process. The agency will rule out countries based on statutory restrictions and assess countries’ policy performance via its scorecards. On average, only about a third of candidates pass the scorecard annually. From there, MCC’s board will also weigh supplemental information to determine the most promising policy collaborators and cost-effective projects.

Of the 81 countries in MCC’s FY22 candidate pool (based on country income classification), the agency was statutorily prohibited from working with 15. That left only 66 potential partner countries. Of those 66, only 27 countries passed MCC’s scorecard. At the time of its FY22 selection process, MCC already had 12 compacts and 5 threshold programs in development or implementation, leaving 10 potential partners. To date, MCC has been able to pursue a critical mass of projects through a combination of countries newly passing the scorecard, and subsequent compacts with prior MCC partners. But this is untenable in the longer term. At its last meeting, MCC’s board selected Belize and Zambia as eligible for compact development. The latest compact would be Zambia’s second; and in the World Bank’s FY23 data update, Belize was reclassified as an upper-middle-income country.

While, MCC actively works with countries to improve their scorecard performance, including through its threshold program, in all likelihood, the agency will continue to face increasingly limited partnership options.

Ensuring a sustained focus on development and tackling poverty

The adjustments proposed by the legislation don’t fundamentally change MCC’s focus on poor countries. A drive to reduce poverty grounds the analysis that informs the agency’s investment decisions—whether it’s choosing an initial sector focus based on binding constraints to growth or selecting a project with a sufficiently high social rate of return. Further, the legislation adds language to underscore that MCC’s board should “prioritize need and impact” when selecting eligible countries.

It’s also worth noting that expansion to the poorest 125 countries would capture a larger share of the global poor. The change would mean the agency’s candidate pool would account for roughly 97.5 percent of people living on under $1.90 a day.

While a limited budget inevitably forces some trade-offs, investments should compete on the basis of anticipated development impact and poverty reduction. Meanwhile, the MCC can avoid other forms of “competition” by creating an additional category for newly added upper-middle-income countries, so the agency continues to compare country policy performance with income-level peers.

Potential benefits

As explained, there’s a lot that goes into the decision by MCC’s board to select a country as compact eligible. This legislation, in effect, adds 44 more countries to the starting line. Whether these countries are eventually selected as eligible for compact development will hinge on their policy performance and a range of other factors. Nevertheless, here are a few potential down-the-road benefits of candidate pool expansion.

Figure 2. Proposed changes to MCC’s income restrictions would expand the agency’s potential partners.

Bolstering the US response to global challenges

Countries around the world face yawning infrastructure gaps, health systems in urgent need of investment, and growing demands for adaptation and resilience in the face of extreme weather events. The COVID-19 pandemic and rising commodity prices spurred in large part by Russia’s invasion of Ukraine have conspired to squeeze balance sheets in capitals on nearly every continent. Meanwhile, US policymakers have grown increasingly concerned about the terms and opacity of Chinese overseas financing. It’s a particularly apt time to reflect on how to strengthen and appropriately resource the US development toolkit.

MCC is a small agency—and likely to remain so. But its unique model has a demonstrated record of development impact in countries in which it operates. Where the agency has the potential to do more, its worth giving it the chance.

Opening (re-opening) the door to additional regions

Broadening MCC’s income requirements would expand the potential for partnerships in Latin America and the Caribbean (LAC), a region close to home that has suffered considerable setbacks amid the pandemic. Likewise, the proposed pool expansion would provide MCC the flexibility (where warranted by need and scorecard-judged policy performance) to invest in critical allies in Eastern and Central Europe, a region that faces new hardships as a result of Russian aggression. The agency has struggled thus far to pursue regional investment with concurrent compacts—an admittedly complicated endeavor. Still, the new bill could ultimately pave the way for additional regional work, in the regions referenced above as well as Southern Africa.

A tool to combat democratic backsliding?

Over the years, MCC and its champions have touted the “MCC Effect”—namely the idea that countries pursue governance and policy reforms in the hopes of becoming eligible for MCC partnerships. The data is a bit more complicated, but with growing worries over democratic backsliding and rising authoritarianism, there’s a logic to expanding the range of a development agency that rewards good governance. 

As summer heats up,  we’re witnessing a rise in global poverty—a consequence of Russia’s invasion of Ukraine, increased inflation, and the knock-on effects of a global pandemic. New legislation could unlock MCC’s potential to deliver greater development impact by enlarging its candidate pool. The House Foreign Affairs Committee is scheduled to markup the Millennium Challenge Corporation Eligibility Expansion Act on Thursday, July 28. Lawmakers (and agency leadership should the bill eventually be enacted) will need to hew closely to the bill’s original intent and language, retaining MCC’s laser-focus on development, in order to see its potential benefits come to fruition. We’ll be watching closely for any progress in advancing this bipartisan proposal and what it could mean for the agency going forward.