Dissertation: Foreign Aid vs. Economic Growth

Pages: 16 (4208 words)  ·  Bibliography Sources: 20  ·  Level: Master's  ·  Topic: Economics  ·  Buy This Paper


[. . .] The nation specific studies too have not succeeded in the production of conclusive results. The example being the bivariate Granger causality test performed by Dhakal et al. (1996) that involved four Asian nations (India, Nepal, [1: The most up-to-date analysis is the one conducted by Burnside and Dollar (2000) with the sponsorship of the World Bank that concluded that the foreign aid only works well under favorable and good policy environment. These favorable policies include low inflation, liberalized financial sector, zero or very low deficits with a regime which is open trade and a government which is open sector friendly. This proposition/analysis has however been refuted on methodological grounds as well as contrary findings by other scholars. The literature that explores this is Hansen and Tarp (2000)]

Pakistan and Thailand).

The other nations involved in their analysis were four African nations (Botswana, Kenya, Malawi as well as Tanzania). These studies however failed to produce a causal correlation between foreign aid and economic growth in the countries involved. On the contrary, Levy (1988) did find out that aid has positive and significant correlation with the level of investment as well as economic growth in African nations. Gounder (2001), by means of an Autoregressive Distributed Lag (ARDL) model found that foreign aid has a positive as well as significant effect on the economic growth in a specific country (Fiji). On the same note Murty, Ukpolo and Mbaku (1994) have found that the per capita real gross domestic product, rate of savings as well as foreign aid is highly correlated. Their study also found out that foreign aid has positive long-term effects on countries such as Cameroon between 1970 and 1990. By means the cointegration as well as error correction analysis by Nyoni (1998) in Tanzania that found that there is a positive long run effect of aid on the overall equilibrium real exchange rate[footnoteRef:2]. The multi-country analysis conducted by Burnside and Dollar (2000) did find out that foreign aid have been very effective in the promotion of economic growth un countries that have favorable policies. By means of a simultaneous-equation model, the authors Burke and Ahmadi-Esfahani (2006) failed to find a sufficient evidence necessary for deducing that foreign aid can significantly affect the level of economic growth in Indonesia, Philippines and Thailand between the periods running 1970 up to 2000. The main aim of the study is to examine if there is a correlation between the foreign aid and economic growth in Africa (Ethiopia). This is in light of the fact that after an excess of thirty five years of various forms of development assistance as well as the spending of more than one trillion dollars in foreign aid, an excess of one billion individuals still live on less than a dollar (U.S.) per day (World Bank,1998). This therefore raises the doubt on the real effectiveness of foreign aid. From the earlier periods of 1965, the level of real per capita income of most Sub-Saharan nation has experienced a decline or has been stagnant. The economist of that time did however attribute this problem of economic growth to lack of capital (as a result of low savings) as well as foreign exchange constraints. In this light, the concept of foreign exchange has been viewed as being vital to the process of eliminating low growth as well as the vicious circle of poverty. [2: The equilibrium real exchange rate refers to the observed real exchange rate .]

The aim of this paper is to thoroughly explore and to critically survey the various impacts and effects of foreign aid on economic growth and the country as a whole.


The main objectives are to investigate the existence of a relationship between foreign aid and economic growth. Similarly, the paper endeavors to investigate the economic impact of foreign aid on consumption and investment. Thirdly, it tries to determine whether the recipient governments misuse aid as a result of corruption and inefficiency of the governance. This paper also tries to investigate the contribution or the failure of financial aid conditionality in Africa. And finally, it tries to investigate whether African countries need financial aids to survive and grow.

The relationship between foreign aid and economic growth

The Economic growth rate in Sub-Saharan African countries like Ethiopia which stood at 2.17% on average over the period 1980-89 increased by 3% over the period 1990-06. On the contrary, investment over Gross Domestic Product which was averagely 20% over the period 1980-89 reduced to 18% in the period between 1990-1906. Similarly, savings over the Gross Domestic Product for all the Sub-Saharan Africa countries reduced from 18 becoming 15% over these two periods. There has been many works in the assessment of foreign aid and economic growth. Earlier research in the assessment of the relationship between financial aid and growth has produced confusing results and has received criticism for procedural problems that are as a result of cross-country studies. Some observed assessments have indicated that there is no fundamental relationship between foreign aid and economic growth. However, works such as; Burnside and Dollar (2000), Nyoni (1998) and Levy (1988) found that financial aid is positively linked with investment and economic growth in African countries.

Financial aid is misused by the governments

From our research, the recipient governments misuse the financial assistance accorded to them due to rampant corruption that has rocked this countries. While the financial aid is an extremely important source of investment for poor and often insecure nations, its complication and the always expanding budgets leave it exposed to corruption, yet it cannot be discussed because of rampant corruption remains a taboo subject. Bailey (2008). It is so hard to quantify corruption because it is always difficult to differentiate it from other problems that affect the developing nations like Ethiopia, like wastage of resources, mismanagement besides inefficiency. Usually, absence of understanding of the process by the people who should be receiving the financial aid results into cynicism and firm belief that greed and rampant corruption are the major failures. Non-governmental organizations have in the recent past years made huge efforts to improve participation, accountability and transparency. Financial aid continues to be misunderstood by those who should be receiving it. Greater investments are required to be made into researching and investing in applicable and efficient accountability systems. Bailey (2008). Some researchers from the overseas Development Institute have highlighted the need to tame corruption using the following methods. Firstly they suggest that the governments should refuse to admit the pressure to spend aid rapidly. They respective governments should also try to continue to invest in inspection capacity, further than the simple paper trails. Bailey (2008). To minimize the rampant corruption that is widespread in the financial aid, privately owned consulting firms, like PricewaterhouseCoopers and Deloitte, are increasingly being contracted by donor agencies to effectively manage and implement elements of their aid program, due to their perceived ability to perform higher quality program management and delivery.

Why African countries need financial aid

Millions of African children are dying from preventable and curable diseases and illnesses. Gordon Brown. Gordon brown, the former United Kingdom Chancellor of the Exchequer called for a doubling of foreign aid that is extended to African countries in January 2005. He gave hope by stating the ease and importance of doing good. Medicine that is capable of preventing half of all malaria deaths is costing 12 cents only per dose. A net capable of preventing malaria costs only $4. Spending $3 only on every new mother is capable of preventing 5 million child deaths up to the next ten years. In 2005, the West tried harder than any other ever to save Africa. The British Prime Minister Tony Blair, by then called at the World Economic Forum in Davos in January 2005 for a great push forward in Africa to bring to an end the rampant poverty. This was to be financed by an increment of the foreign aid. Secondly, Tony Blair commissioned a Report on Africa, which publicized its findings in March 2005, similarly, calling for a "great push." Gordon Brown and Tony Blair put the cause of bringing to an end the rampant poverty in Africa the top of the list of items of the G-8 Summit in Scotland in July 2005. In July 2005, the G-8 came to an agreement to double foreign aid to Africa, from the $25billion which used to be given annually to $50 billion to finance the big push of making poverty in Africa a history. Africa was already the mainly aid-intensive section in the world prior to the efforts of 2005. September 2005, the world's leaders made a gathering at the United Nations to further discuss the progress on putting to end poverty in Africa. This aid came because the tragedy of Africa has been well-known for quite sometimes. Sub-Saharan Africa has 11% of the world's population though it produces only one percent of the world's Gross Domestic Product. In any African's nation, approximately… [END OF PREVIEW]

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