Here is a new paper by Channing Arndt, Sam Jones, and Finn Tarp on whether aid leads to economic growth. The econometrics are done carefully, and it finds that aid inflows of about 10 per cent of GDP lead to an increase in economic growth of about 1 percentage point. (Reassuringly, this is also broadly consistent with a common sense calculation of the sort of effect that aid ought to have.) They also find evidence of bigger, more positive effects of aid, consistent with positive effects of aid on productivity.
I’m not a fan of these aid-growth regressions, because they are technically difficult to do well (see David Roodman’s article on the problems.) But they are important for one reason: they are a more systematic way of doing the popular “folk regression” offered by authors such as Dambisa Moyo and Bill Easterly. When Moyo and Easterly point out that countries that have had high levels of aid have also suffered from slow growth, they are implicitly pronouncing on whether there is a statistical relationship between aid and growth. But of course you would expect to see a lot of aid going to poor countries (rather as ambulances tend to be present at the scene of road accidents) so these simplistic comparisons do not tell us very much about the effect of aid on growth. The more careful question to ask is whether, other things being equal, aid leads to higher or lower growth, and that is what this kind of statistical analysis investigates. It is good to have confirmation that the folk regressions are wrong and that aid does, as best we can tell, lead to economic growth.
There are a few other interesting things about this paper:
- the paper uses the same data as the infamous and oft-cited Rajan and Subramanian paper which claimed that there was no effect on growth (which I criticised at the time here) and finds that, if the regressions are done more carefully, those findings were not correct;
- the effect of development aid on growth is probably understated by this analysis because it includes all aid (unlike the paper by Clemens, Radelet, and Bhavnani, which subtracts humanitarian aid and other aid which is not intended to lead to economic development and finds – as you would anticipate – much larger effects of aid on growth from the subset of aid that is actually intended to promote development);
- there is no sign of diminishing returns to aid in this analysis. (This is an unusual finding – generally studies have needed to include a diminishing returns term to generate a statistically significant relationship between aid and growth).
- the study uses donor-specific fixed effects (the only study to do so, as far as I am aware). I’m looking forward to looking at these in detail, as the estimates will give us an insight into which donors are the most effective.
Update: David Roodman, whom I regard as an authority on these matters, thinks that I am wrong and Bill Easterly is right.