On the Empirics of Foreign Aid and Growth

Abstract

The present paper re-examines the effectiveness of foreign aid theoretically and empirically. Using a standard OLG model we show that aid inflows will in general affect long-run productivity. The size and direction of the impact may depend on policies, 'deep' structural characteristics and the size of the inflow. The empirical analysis investigates these possibilities. Overall we find that aid has been effective in spurring growth, but the magnitude of the effect depends on climate-related circumstances. Finally, we argue that the Collier-Dollar allocation rule should be seriously reconsidered by donor agencies if aid effectiveness is related to climate.

Ethnic Fractionalisation and Aid Effectiveness

“…5 Doucouliagos and Paldam (2010) and Roodman ( , 2007 discuss various contributions to the conditional aid effectiveness literature. Roodman's robustness exercises suggest that the findings of Hansen and Tarp (2001) and Dalgaard et al (2004) tend to be more robust than other findings in this literature. These robustness exercises do however not include the most recent contributions, e.g., Angeles and Neanidis (2009) and also not all of the earlier contributions, e.g., Ovaska (2003).…”

“…14 We further address the potential endogeneity of foreign aid also by using the generalised method of moments GMM panel estimators of Arellano and Bond (1991) and Blundell and Bond (1998). These estimators have become increasingly popular in the aid effectiveness literature (e.g., Hansen and Tarp, 2001;Dalgaard et al, 2004;Rajan and Subramanian, 2008;Angeles and Neanidis, 2009). They make use of standard instruments, such as those discussed above, but expand the instrument set to improve the efficiency of the first-stage regression.…”

“…The first technique that we use is two-stage least squares (2SLS). Following the literature (e.g., Boone, 1996;Burnside and Dollar, 2000;Hansen and Tarp, 2001;Dalgaard et al, 2004;Angeles and Neanidis, 2009), we use as instruments for AID it a dummy for the Franc zone (FRZ i ), a dummy for Central American countries (CAM i ), a dummy for Egypt (EGY i ), arms imports divided by GDP (ARMS it ) and log population size (POP it ). These instruments are inspired by various studies, showing that strategic and cultural ties are important determinants of aid flows.…”

“…Despite some doubts about the robustness of their findings, Burnside and Dollar (2000) must be credited for initiating the conditional aid effectiveness literature. 4 Major contributions to this literature include Tarp (2000, 2001), Dalgaard et al (2004) and Angeles and Neanidis (2009). 5 Hansen and Tarp find diminishing returns to foreign aid, i.e., a negative coefficient on aid squared.…”

Foreign Aid, Poor Data, and the Fragility of Macroeconomic Inference

“…It has been following a path similar to the broader empirical growth literature, with early studies typically relying on cross-section data (e.g., Boone (1996)), and later panel data to exploit the temporal variation in order to estimate the effect of foreign aid on economic development (e.g., Dollar and Easterly (1999); Burnside and Dollar (2000); Dalgaard et al (2004)). Overviews of this early but still influential literature are provided by Hansen and Tarp (2001) and Morrissey (2001).…”