The political economy of multilateral aid funds

Jenny Simon and Justin Mattias Valasek

Discussion Papers, Research Unit: Economics of Change from WZB Berlin Social Science Center

Abstract: In 2014 over $60 billion was mobilized to help developing nations mitigate climate change, an amount equivalent to the GDP of Kenya. Interestingly, breaking from the traditional model of bilateral aid, donor countries distributed nearly fifty percent of their aid through multilateral aid funds (OECD, 2015). In this paper, we show that by delegating aid spending to an international fund, donor countries mitigate a "hold-up" problem that occurs when donor countries are tempted to allocate aid based on, say, a regional preference. That is, under bilateral aid, donor-country bias decreases the incentive of recipient countries to invest in measures such as good governance that increase the effectiveness of aid. By delegating allocation decisions to a fund, however, donor countries commit to allocating aid via centralized bargaining, which provides recipient countries with an increased incentive to invest. Additionally, we show that allocating funding by majority rule further increases recipient-country investment, since higher investment increases the probability that a recipient's project will be selected by the endogenous majority coalition, and detail conditions under which majority is the optimal voting rule.

Keywords: Aid policy; Climate change; International organizations (search for similar items in EconPapers)
JEL-codes: F35 H87 O19 (search for similar items in EconPapers)
Date: 2016
New Economics Papers: this item is included in nep-cdm, nep-env, nep-pol and nep-ppm
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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Persistent link: https://EconPapers.repec.org/RePEc:zbw:wzbeoc:spii2016303

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