Foreign Aid and Foreign Policy: How donors undermine the effectiveness of overseas development assistance
Derek Headey ()
No WP052005, CEPA Working Papers Series from University of Queensland, School of Economics
Previous aid effectiveness studies have typically attempted to identify recipient-side conditions of aid effectiveness ï¿½ such as ï¿½good policiesï¿½, political and economic stability, and ï¿½tropical effectsï¿½ ï¿½ using cross-country growth regressions. An obvious omission from this list of conditions is the extent by which donors are concerned with achieving geopolitical rather than developmental objectives, which may reduce aid effectiveness insofar as strategic donors have less incentive to hold the recipient government accountable for the developmentally effective use of aid receipts. Aid allocation regressions can (and are) used to demonstrate the importance of geopolitical considerations, but the author also shows that such regressions cannot be used to instrument for aid in a second stage growth regression, as is standard practice in this literature, because to do so would invoke the untested assumption that strategically motivated aid is just as effective as developmentally motivated aid. Instead the author tests the effect of lagged aid flows on growth, and subsequently demonstrates that: aggregate aid flows are estimated to have significant but moderately sized effects on growth; multilateral aid flows have roughly twice the effect of bilateral flows; but that the lower average effects of bilateral aid nevertheless obscure a substantial degree of heterogeneity in the bilateral aid coefficient which is again explained by the degree to which these flows are indeed strategically motivated.
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