Aid and Sanctions

27 Pages Posted: 11 Oct 2008

See all articles by Kenneth M. Kletzer

Kenneth M. Kletzer

University of California at Santa Cruz; CESifo (Center for Economic Studies and Ifo Institute for Economic Research)

Date Written: April 1, 2005

Abstract

Foreign aid donors and recipient governments often have conflicting objectives. Foreign donors may attempt to influence the policies of recipient governments by offering aid or threatening to suspend aid to sovereign states. This paper considers the credibility of such inducements and the conditioning of aid flows on policy behavior by national governments in the presence of opposing objectives. Aid can be conditioned on past policy actions of the recipient and used to influence the distribution of government resources in a simple repeated agency model. In equilibrium, aid flows are backloaded and reward recipient governments for donor-preferred policy actions. The model is extended to a stochastic setting to allow for asymmetric information between donors and recipients regarding government resources and accumulation of private of foreign assets. This allows for unobserved capital flight implicitly financed by foreign aid inflows by constituents favored by the government. Conditional aid is still feasible and can be enforced by aid suspensions in the presence of potential capital flight.

JEL Classification: F0, F3 F34, F35

Suggested Citation

Kletzer, Kenneth M., Aid and Sanctions (April 1, 2005). Available at SSRN: https://ssrn.com/abstract=1281149 or http://dx.doi.org/10.2139/ssrn.1281149

Kenneth M. Kletzer (Contact Author)

University of California at Santa Cruz ( email )

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