Tied to Capital or Untied Foreign Aid?
Michael S. Michael
University of Cyprus - Department of Economics; CESifo (Center for Economic Studies and Ifo Institute)
Charles Van Marrewijk
Utrecht University - Utrecht University School of Economics
REVIEW OF DEVELOPMENT ECONOMICS
We constract a two-country trade model of foreign aid. The aid receiving country suffers from Harris-Todaro type of unemployment. Aid is either untied, tied to sector-specific capital, or tied to intersectorally mobile capital. We compare these types of aid by examining their terms-of-trade and welfare effects to show that (i) welfare paradoxes are possible, (ii) the world as a whole may gain from aid, (iii) a conflict of interest concerning the type of aid may arise between donor and recipient, and (iv) under plausible conditions untied aid is better for the recipient and the world.
JEL Classification: F35, O1Accepted Paper Series
Date posted: June 3, 1998
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