Determinants and Welfare Impacts of Foreign Aids

Introduction

Foreign aids are important for humanitarian assistance in the case of conflict and natural disasters as well as for the development of countries which cannot have access to basic needs and financial sources for improving their social and economic infrastructure. Particularly, for inclusive growth and climate change mitigation and adaptation, it is difficult to replace foreign aids with any other financial flow especially for those countries which has limited access to many of these instruments other than aids (Addison et al., 2017). Official Development Assistance (ODA) has taken special attention as ODA is the official and concessional flow of resources to developing countries from developed countries.

The literature for aid has shown a rapid growth after the first aid programs begun in 1940’s in such a way that impacts, determinants and substitutability of foreign aid has been discussed widely (Addison et al., 2017). Among developmental studies, literature has shown interest for the factors affecting aid allocation since 1970s (Hoeffler and Outram, 2011). In the aid-growth literature, some studies fail to obtain a result showing the growth effect of foreign aid. Therefore, another group of studies have tried to understand the reason for this failure by investigating the determinants of aid allocation and therefore, claimed that there can be some problems in allocation (Clist, 2011). According to Hoeffler and Outram (2011), the literature before their study mostly showed that the dominant factor for aid allocation is donor’s self-interest. In this context, Swiss (2017) argues that aid allocation is a complex issue and cannot be explained by one or two factors. There are many factors affecting the allocation of foreign aids, such as the recipient needs (such as, growth, poverty, infants mortality rate and age dependency ratio), donor countries’ interests (for example, foreign policy and trade), global ties of recipient country (for instance, membership in international nongovernmental organizations (NGOs) and ratification of international agreements/treaties) and governance of the recipient countries (as an example, political stability, political participation, corruption control, regulatory quality) (In’airat, 2014; Swiss, 2017). There are different approaches in the literature for the determination of factors affecting the aid allocation. One of these approaches is traditional hybrid model which combines altruistic (international humanitarian) and realist motives, in other words, consider two factors only which are recipient needs and donor’s interest (Clist, 2011; Swiss, 2017). Poverty (Bandyopadhyay and Wall, 2007; Opeskin, 1996) and population (Alesina and Dollar, 2000; Bandyopadhyay and Wall, 2007; Neumayer, 2003; Trumbull and Wall, 1994) are the two main factors which show the recipient need and as poverty per capita increases, the donor countries are expected to give more aids. On the other hand, donor’s interest can also affect the aid allocation. The wealthier countries may provide aids based on their foreign policy as well as to strengthen their commercial relations (see for example, Alesina and Dollar (2000); Morgenthau (1962); Neumayer (2003); Woods (2008); Dreher et al. (2011)).