Foreign Aid and Domestic Absorption
46 Pages Posted: 4 Nov 2014
Date Written: October 23, 2014
We introduce a new 'supply-push' instrument for foreign aid, to be used together with an instrumental variable estimator that filters out unobserved common factors. We use this instrument to study the effects of aid on macroeconomic ratios, and especially the ratios of consumption, investment, imports and exports to GDP. We cannot reject the hypothesis that aid is fully absorbed rather than used to build foreign reserves or exiting as capital flight, nor do we find evidence of Dutch Disease effects. Aid leads to higher consumption, while the evidence that it promotes investment is less robust.
Keywords: foreign aid, absorption, Dutch Disease
JEL Classification: F350
Suggested Citation: Suggested Citation