MORE overseas aid should be given in the form of loans rather than handouts, with grants only for the poorest countries or for emergency situations, MPs have recommended.

The cross-party group also said the Government should consider setting up a new UK development bank to manage aid investment.

In a report, the International Development Select Committee said loans should be used to finance infrastructure projects in some of the world's poorest countries, but acknowledged that the financing would have to be carefully managed to avoid burdening fragile economies with unmanageable debt.

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The MPs backed the Government's commitment to continue meeting the international target of spending 0.7% of gross national income (GNI) on overseas aid.

But the committee called on the Department for International Development, which has an office in East Kilbride, to focus grants on low-income countries with more developed, middle-income countries receiving assistance in the form of loans.

The committee's Liberal Democrat chairman Sir Malcolm Bruce said: "We believe the ­overwhelming drive in UK aid should continue to focus on lifting people out of poverty.

"In lower-middle-income countries there is considerable scope to use UK aid funding to support the private sector to deliver programmes that generate economic growth, create jobs, raise tax revenues and reap social benefits, although the presumption should be that such support is provided in the form of returnable capital wherever feasible."