Abstract
ABSTRACTThe association between foreign aid and growth has been controversial for decades and the evidence is quite mixed with results sensitive to data samples and modelling approaches. We reassess the relationship between aid, policy and growth implementing a novel semiparametric estimation method that allows for nonlinearities and controls for endogeneity. The results show that the aid-policy-growth relationship is complex. Aid inflows do not seem growth-enhancing, except at very high levels (above 7% of Aid/GDP), whereas the effect may arrive with a lag at lower levels. Policy improvements are positively correlated with growth at high policy levels (above the median value) but better policies do not increase aid effectiveness.
Highlights
Net Official Development Assistance (ODA) flows have continuously increased between 1960 and 2015 at an annual real rate of 2.9%, reaching 152.5 billion US dollars or 20.7 dollars per capita in 2015.1 Yet, whether the multiple aid efforts and billions of dollars mobilized each year effectively contribute to the economic growth of developing countries, including countries with good policies and institutions, is still puzzling and a matter of constant debate
We reassess the relationship between foreign aid, policy and growth using a novel semiparametric estimation approach that permits to account for nonlinearities in the relationship while controlling for endogeneity
ELR use the same model specification as BD and argue that the positive effect of aid on growth in good policy environments found in BD does not hold when extending the sample to a few more countries and one additional period
Summary
Net Official Development Assistance (ODA) flows have continuously increased between 1960 and 2015 at an annual real rate of 2.9%, reaching 152.5 billion US dollars or 20.7 dollars per capita in 2015.1 Yet, whether the multiple aid efforts and billions of dollars mobilized each year effectively contribute to the economic growth of developing countries, including countries with good policies and institutions, is still puzzling and a matter of constant debate. CRBB divides the growth-aid literature into three strands, which include the ‘conditional’ strand that argues that aid may only cause growth under certain conditions (e.g., in good policy environments); the ‘unconditional’ strand that focuses on the model specification or sample period considered suggesting that aid might have diminishing returns; and the ‘null’ strand that argues that there is no relationship between aid and growth. The work that followed BD study, provide wide varying results using data extensions and alternative regression specifications, instrumental variables and estimation strategies The work that followed BD study, provide wide varying results using data extensions and alternative regression specifications, instrumental variables and estimation strategies (e.g., Dalgaard and Hansen, 2001; Collier and Dehn, 2001; Hansen and Tarp, 2001; Lu and Ram, 2001; Collier and Dollar, 2002; Burnside and Dollar, 2004; Dalgaard https://data.worldbank.org/indicator/DT.ODA.ODAT.KD. 2 Prior to BD, Boone (1996) finds in another influential work that foreign aid does not affect growth for the average country
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