Sectoral foreign aid and growth: spatial and temporal dynamics in a regional panel framework

This study examines the heterogeneous regional impact of sectorally allocated foreign aid on sectoral growth in Sub-Saharan Africa (SSA) and the Middle East and North Africa (MENA) regions, incorporating for time-fixed effects, country-fixed effects, and lagged influences. Using data from 31 countries between 1996 and 2022, the study conducts a sub-group analysis based on regional heterogeneity and income-level divergence, considering unobserved factors and spatial dependencies. The study employs a spatial seemingly unrelated regression (SUR) framework with robust standard errors, incorporating a novel spatio-temporal weight matrix based on geographic proximity to tropical regions and temporal distance. The results reveal substantial regional and income-level variation in aid effectiveness. In MENA, aid allocated to the industrial sector consistently yields positive and significant effects, while in SSA, its impact is predominantly negative or insignificant—highlighting the context-dependent nature of industrial aid effectiveness. In contrast, aid to services and agriculture generally has positive and significant effects in SSA, though in MENA the impact is more delayed and inconsistent. Spatial dependencies intensify the negative effects of aid on industrial growth in SSA, likely due to overlapping economic constraints and inter-country competition. Conversely, spatial effects in MENA reinforce aid’s positive impact on industrialization. The study concludes that effective aid strategies must account for regional heterogeneity, income disparities, and sector-specific dynamics. Long-term investment planning, institutional reform, and enhanced regional cooperation are essential for improving aid outcomes and promoting inclusive, sustainable development.