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Foreign Aid and Economic Growth in Developing Countries: An Instrumental Variables Approach

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  • Arvind Magesan

    (University of Calgary)

Abstract

There is little consensus on the capacity for foreign aid to cause economic growth in developing countries. This is due in large part to the fact that foreign aid recipients are selected by donors, confounding identifi cation. This paper proposes an identifi cation strategy that exploits exogenous variation in foreign aid receipts generated by participation in Human Rights Treaties at the UN to identify an average causal effect of aid on growth. Our approach is valid even if the eff ect of aid is heterogeneous across recipients for unobservable reasons. We find that an additional dollar of per capita aid causes the growth rate in a recipient country to increase by 8% over four years and 5% over a decade. The e ffect is explained almost entirely by an expansion of the service industry, accompanied by a large increase in household consumption, with no evidence that aid causes "Dutch disease," as many fear it does. We conclude that aid increases growth by inducing a structural change in household demand for services.

Suggested Citation

  • Arvind Magesan, "undated". "Foreign Aid and Economic Growth in Developing Countries: An Instrumental Variables Approach," Working Papers 2015-08, Department of Economics, University of Calgary, revised 25 Jun 2015.
  • Handle: RePEc:clg:wpaper:2015-08
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    File URL: https://econ.ucalgary.ca/sites/econ.ucalgary.ca.manageprofile/files/unitis/publications/1-6304061/MagesanJune15.pdf
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    References listed on IDEAS

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    Cited by:

    1. Adelowokan, Oluwaseyi & Adesoye, Adesola & Akpa, Emeka & Maku, Olukayode, 2020. "Remittances, Foreign Aid and Private Consumption in Sub-Saharan Africa (SSA): A System GMM Estimation," MPRA Paper 98362, University Library of Munich, Germany.

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