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Authors: Alok Kumar and Omar Saleh
Date: Spring 2021
From: Journal of Developing Areas(Vol. 55, Issue 2)
Publisher: Tennessee State University
Document Type: Article
Length: 5,817 words
Lexile Measure: 1400L

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Abstract :

The effectiveness of foreign aid in promoting growth has been a subject of intense debate among donors, policy makers and researchers. On the one hand, foreign aid can promote growth and investment by filling the savings gap and the foreign exchange gap. On the other hand, foreign aid may have an adverse effect on growth and investment due to disincentives and moral hazard issues associated with the strategic interactions among donors and recipients and its negative effect on the tradable sector and the competitiveness of the economy through the Dutch Disease. In this paper, we examine long-run effects of foreign aid on output and prices of tradable and non-tradable sectors in twenty-two sub-Saharan African (SSA) countries using cointegrated vector autoregressive (CVAR) analysis. The SSA countries have been major recipients of foreign aid. The CVAR methodology has a number of advantages over single equation estimation and panel data estimation method used in current studies. Unlike these methods, it allows for the dynamics of aid and its effect to differ across countries. For each country, we estimate 5X5 CVAR model using annual data. Our variables comprise of foreign aid, tradable output, non-tradable output, price of tradable goods, and price of non-tradable goods. We find that aid has a heterogeneous effect on sectoral output and prices. It has a significant negative effect on tradable output in fifteen countries, but has a significant positive effect on the tradable output in four countries. Similarly, aid has a significant positive effect on non-tradable output in five countries, but a significant negative effect in six countries. Only in four countries foreign aid has both a negative effect on tradable output and a positive effect on non-tradable output. We also find that aid has an inflationary effect in six countries, while it has a deflationary effect in five countries. We do not find evidence of Dutch disease. Aid does not lead to deterioration in the terms of trade for tradable goods. JEL Classifications: C32, F35, O19, O55 Keywords Foreign aid, CVAR, Sub-Saharan Africa, Tradable and Non-tradable sectors

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Gale Document Number: GALE|A641753909