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Aid, Governance, and Private Foreign Investment: Some Puzzling Findings and a Possible Explanation

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  • Philipp Harms

    () (Study Center Gerzensee and University of Konstanz)

  • Matthias Lutz

    () (University of St. Gallen)

Abstract

Does offcial aid pave the road for private foreign investment or does it suffocate private initiative by diverting resources towards unproductive activities? In this paper we explore this question using data for a large number of developing and emerging economies. Controlling for countries’ institutional environment, we find that, evaluated at the mean, the marginal effect of aid on private foreign investment is close to zero. Surprisingly, however, the effect is strictly positive for countries in which private agents face a substantial regulatory burden. After testing the robustness of this result, we offer a theoretical model that is able to rationalize our puzzling observation.

Suggested Citation

  • Philipp Harms & Matthias Lutz, 2003. "Aid, Governance, and Private Foreign Investment: Some Puzzling Findings and a Possible Explanation," Working Papers 03.04, Swiss National Bank, Study Center Gerzensee.
  • Handle: RePEc:szg:worpap:0304
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    References listed on IDEAS

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    Cited by:

    1. Kilby, Christopher, 2005. "World Bank lending and regulation," Economic Systems, Elsevier, vol. 29(4), pages 384-407, December.
    2. Carl-Johan Dalgaard & Henrik Hansen & Finn Tarp, 2004. "On The Empirics of Foreign Aid and Growth," Economic Journal, Royal Economic Society, vol. 114(496), pages 191-216, June.
    3. Kilby, Christopher, 2005. "Aid and regulation," The Quarterly Review of Economics and Finance, Elsevier, vol. 45(2-3), pages 325-345, May.
    4. KIMURA Hidemi & TODO Yasuyuki, 2007. "Is Foreign Aid a Vanguard of FDI? A Gravity-Equation Approach," Discussion papers 07007, Research Institute of Economy, Trade and Industry (RIETI).
    5. Philipp Harms & Michael Rauber, 2004. "Foreign aid and developing countries' creditworthiness," Working Papers 04.05, Swiss National Bank, Study Center Gerzensee.
    6. Philipp Harms & Matthias Lutz, 2004. "The Macroeconomic Effects of Foreign Aid: A Survey," University of St. Gallen Department of Economics working paper series 2004 2004-11, Department of Economics, University of St. Gallen.

    More about this item

    JEL classification:

    • F35 - International Economics - - International Finance - - - Foreign Aid
    • F21 - International Economics - - International Factor Movements and International Business - - - International Investment; Long-Term Capital Movements
    • O16 - Economic Development, Innovation, Technological Change, and Growth - - Economic Development - - - Financial Markets; Saving and Capital Investment; Corporate Finance and Governance
    • O19 - Economic Development, Innovation, Technological Change, and Growth - - Economic Development - - - International Linkages to Development; Role of International Organizations

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