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The Financing of Foreign Aid and Welfare: Income Versus Consumption Tax

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  • Panos Hatzipanayotou
  • Michael S. Michael

Abstract

Empirical evidence shows that developed countries use income or consumption taxes to generate tax revenue, of which they transfer a certain fraction as aid to less developed countries. This paper constructs a two‐country general equilibrium trade model that takes into account these realities, and examines the terms of trade, employment and welfare effects of international transfers when the donor country increases the fraction of its income or consumption tax revenue transferred as aid. The desirability of each method of aid financing is discussed from the viewpoint of national and world welfare, and conditions are identified under which aid improves world welfare with the one method of financing, and may worsen it with the other.

Suggested Citation

  • Panos Hatzipanayotou & Michael S. Michael, 2000. "The Financing of Foreign Aid and Welfare: Income Versus Consumption Tax," Review of Development Economics, Wiley Blackwell, vol. 4(1), pages 21-38, February.
    • Handle: RePEc:bla:rdevec:v:4:y:2000:i:1:p:21-38
    DOI: 10.1111/1467-9361.00076
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    Cited by:

    1. Kyriakos C. Neanidis, 2005. "Aid, Budgetary Policies, and the Macroeconomy: Growth, Inflation, and Welfare," Economics Discussion Paper Series 0535, Economics, The University of Manchester.
    2. Stephen M. Miller & Kyriakos C. Neanidis, 2012. "Demographic Transition and Economic Welfare: The Role of Humanitarian Aid," Working papers 2012-06, University of Connecticut, Department of Economics.
    3. Chatterjee, Santanu & Sakoulis, Georgios & Turnovsky, Stephen J., 2003. "Unilateral capital transfers, public investment, and economic growth," European Economic Review, Elsevier, vol. 47(6), pages 1077-1103, December.
    4. K C Neanidis, 2005. "Aid, Budgetary Policies, and the Macroeconomy: Growth, Inflation, and Welfare," Centre for Growth and Business Cycle Research Discussion Paper Series 58, Economics, The University of Manchester.
    5. Santanu Chatterjee & Stephen Turnovsky, 2002. "Substitutability of Capital, Investment Costs, and Foreign Aid," Working Papers UWEC-2002-08-P, University of Washington, Department of Economics, revised Nov 2002.

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