Aid Allocation and Aid Effectiveness

Recent global initiatives on debt relief and development assistance anticipate a significant increase in overall aid flows to the poorest countries and – at least in the medium term – a concentration of these flows on a small number of African countries. Accompanying these pressures for a scaling-up of aid are fears that large increases in aid may jeopardize macroeconomic stability and growth and undermine poverty-reduction objectives. This can occur through various channels. We examine specifically whether aid leads to Dutch disease effects and whether it deteriorates the quality of governance in recipient countries e.g. because of a lack of donor coordination.

A further reason for limited aid effectiveness may be that donors are not only led by altruistic motives but also pursue economic and political interests when giving aid. Employing cross-country and panel data approaches, we evaluate to what extent such donor interests shape aid allocations. A distinction that has been suggested in the aid allocation literature is that between public donors and NGOs. This is because of the widely held view that NGOs tend to put a stronger focus on recipient needs. To test whether this view is backed by empirical evidence, we analyse the determinants of aid allocations for NGOs from various donor countries.

While the literature does not provide robust evidence of a positive effect of foreign aid on recipient countries’ economic growth, it appears to be premature to conclude that aid is ineffective. A serious shortcoming common to almost all earlier studies is that the analysis is based on aggregate aid figures. Moreover, previous studies ignore the multi-dimensional objective function underlying the aid allocation of donors. Aid may raise welfare in recipient countries through other channels than growth promotion. The Millennium Development Goals (MDGs) provide an obvious point of departure for taking account of a broader range of poverty-relevant objectives of aid. To address these issues, we perform panel data analyses for a large sample of recipient countries in order to examine whether specific aid categories have been effective in achieving specific objectives. We analyze, for example, to which extent aid for education has supported the respective MDGs such as universal primary enrolment. At the same time, we raise the question of whether donors live up to their rhetoric and allocate aid in line with MDGs.

Project partners: Axel Dreher (University of Heidelberg); Hannes Öhler (University of Heidelberg); Pablo Selaya (University of Copenhagen).