The forgotten rationale for policy reform: The productivity of investment projects

Using economic rates of return from World Bank-funded investments, we inves tigate how country characteristics and policies that influence aggregate pe rformance affect investment productivity. Controlling for other characteris tics, countries with undistorted (distorted) macroeconomic, exchange rate, trade, and pricing policies have highly productive (unproductive) investmen ts. No type of project-in tradable or nontradable sectors-can be "insulated " from poor policies, where returns on investments are about ten percentage points lower. Productivity increases when policies improve within a countr y. Projects are also affected, nonlinearly, by the size of the public inves tment program where policies are undistorted. The results offer new evidenc e on benefits fi om policy reform and challenge conventional cost-benefit a nalysis.