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The search for a long-run aid and growth relationship: Pitfalls and findings

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  • Nowak-Lehmann D., Felicitas
  • Martínez-Zarzoso, Inmaculada
  • Herzer, Dierk
  • Klasen, Stephan
  • Dreher, Axel

Abstract

In this paper we investigate the relationship between per capita income and foreign aid for a panel of131 (alternatively 52) recipient countries over the period 1960 to 2006 by employing annual data and 5-year averages. Reliance on standard panel estimation techniques (such as 2-ways FE estimation, panel GMM and SUR estimation) points to some pitfalls (impossibility of possible cointegration between aid and growth, autocorrelation of the error terms, endogeneity of the variables) that must be dealt with panel time series techniques (such as panel unit root test, panel cointegration tests, a panel Granger causality test and panel dynamic feasible generalized least squares estimation (DFGLS). Estimations with DFGLS show that aid has an insignificant or a minute negative significant impact on per capita income. This result holds for countries with above- and below-average aid-to-GDP ratios, for countries with different levels of human development, with different income levels and from different regions of the world. It can be shown that by not controlling for autocorrelation, one erroneously attributes to aid a larger, significant negative impact on per capita income. We also find that aid has a significant positive (even though) small impact on investment, but a negative and significant impact on domestic savings (crowding out) and the real exchange rate (appreciation). --

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Bibliographic Info

Paper provided by Verein für Socialpolitik, Research Committee Development Economics in its series Proceedings of the German Development Economics Conference, Frankfurt a.M. 2009 with number 23.

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Date of creation: 2009
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Handle: RePEc:zbw:gdec09:23

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Keywords: foreign aid; real per capita income; panel time series techniques; dynamic feasible generalized least squares;

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  1. Axel Dreher & Peter Nunnenkamp & Rainer Thiele, 2006. "Does US Aid Buy UN General Assembly Votes? A Disaggregated Analysis," Kiel Working Papers 1275, Kiel Institute for the World Economy.
  2. Dreher, Axel & Nunnenkamp, Peter & Thiele, Rainer, 2008. "Does Aid for Education Educate Children? Evidence from Panel Data," Open Access publications from Kiel Institute for the World Economy info:hdl:10419/28827, Kiel Institute for the World Economy.
  3. Dreher, Axel & Sturm, Jan-Egbert & Vreeland, James Raymond, 2009. "Development aid and international politics: Does membership on the UN Security Council influence World Bank decisions?," Journal of Development Economics, Elsevier, vol. 88(1), pages 1-18, January.
  4. Doucouliagos , H. & Paldam, M., 2007. "The aid effectiveness literature: The sad results of 40 years of research," Cambridge Working Papers in Economics 0773, Faculty of Economics, University of Cambridge.
  5. Hristos Doucouliagos & Martin Paldam, 2005. "Aid Effectiveness on Growth. A Meta Study," Economics Working Papers 2005-13, School of Economics and Management, University of Aarhus.
  6. Dreher, Axel, 2006. "IMF and economic growth: The effects of programs, loans, and compliance with conditionality," World Development, Elsevier, vol. 34(5), pages 769-788, May.
  7. Eskander Alvi & Debasri Mukherjee & Elias Kedir Shukralla, 2008. "Aid, Policies, and Growth in Developing Countries: A New Look at the Empirics," Southern Economic Journal, Southern Economic Association, vol. 74(3), pages 693-706, January.
  8. Michael Clemens & Steven Radelet & Rikhil Bhavnani, 2004. "Counting Chickens When They Hatch: The Short-term Effect of Aid on Growth," Working Papers 44, Center for Global Development.
  9. Asteriou, Dimitrios, 2009. "Foreign aid and economic growth: New evidence from a panel data approach for five South Asian countries," Journal of Policy Modeling, Elsevier, vol. 31(1), pages 155-161.
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