Candidate: Elias Kedir Shukralla
Degree of: Doctor of Philosophy
Committee: Dr. Eskander Alvi, Chair
Date: Friday, July 8, 2005 9:00 a.m.- 11:00 a.m.
Abstract: The effectiveness of foreign aid in developing countries is one of the most controversial topics in the development literature. In particular, issues relating to the link between aid and growth, and whether aid works better when good policies and reforms are undertaken, and how aid should be allocated have been hotly debated by economists and policy makers. As a matter of fact, developing countries continue to receive large amounts of foreign aid every year, and the controversies surrounding aid also remain strong. This dissertation reexamines the links between aid, growth, policies and economic reforms in aid recipient countries and sheds light on some prevailing controversies.
The fist chapter develops a simple model of asymmetric information and compares two aid allocation rules: need-based and performance-based. While need-based allocation is efficient, it is not incentive compatible and hurts the donor's budget. It turns out that state independent (equal aid) and performance-based allocations solve the incentive problem but unfortunately create an efficiency problem. With respect to the role of policies, it is seen that the premise ‘aid is more effective in the presence of good policies' holds up better in a model of asymmetric information.
In the second chapter an empirical model is developed to test the effectiveness of aid and the role of policies. Using currently popular policy measures and a semiparametric empirical model that addresses nonlinearity and misspecification bias, we show that good policy always helps economic growth. Additionally, when non-linearity in both aid and the interaction between aid and policy are properly addressed, the empirics also support the claim that aid works in a good policy environment.
The third chapter deals with one major deficiency in the aid-growth literature – the use of aggregate data that do not distinguish between emergency and developmental aid, which presumably have different effects on growth. By using aid that goes only to social and economic infrastructure and production sectors, we find improvement in the relevant estimates (though not sizeable), especially with regard to the aid-policy interaction term.
The last chapter examines the aid-growth relationship in the context of economic reform. We do find policy to be more effective in facilitating growth in the post reform period. However, there is no evidence that reform itself makes aid more effective. Therefore, the finding is that reform shapes policies and thus helps growth indirectly, rather than reform directly contributing to growth. Finally, on the question: do reform and good policies attract aid? This study does not find empirical affirmation of that link.
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