Reassessing the aid-policy-growth relationship: A new approach

BY XIN GENG AND MANUEL A. HERNANDEZ

Can foreign aid be effective only if countries have sound fiscal, monetary, and trade policies in place?

This question has been the subject of heated debates for decades. The predominant view in the donor community and in academic circles has been that foreign aid can only be effective in promoting growth and development in contexts where governments have committed to maintaining a “sound” policy environment of low budget deficits, low inflation, and openness to trade. This notion was supported by an oft-cited 2000 paper by Burnside and Dollar in American Economic Review. However, subsequent research has suggested that those findings were strongly sensitive to sample selection bias (in terms of country and period coverage) and model specification—casting doubt on the prevailing conventional wisdom.

Photo credit: Chosa Mweemba/WorldFish